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** **

 

** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-K**

** **

**ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For thefiscal year ended December 31, 2008**

 

**Commissionfile number 000-50645**

 

**THEBANK HOLDINGS**

(Exactname of Registrant as specified in its charter)

 

| **NEVADA**              | ** ** | **90-0071778**                  |
|-------------------------|------------|---------------------------------|
| State  of Incorporation |       | IRS  Employer Identification No |

 

Address of principalexecutive offices:  **9990 Double R Boulevard,Reno, Nevada 89521**

 

Registrant’s telephone number, including areacode:  **775-853-8600**

 
| Securities  registered pursuant to Section 12(b) of the Act**:** | **Common Stock, $0.01 Par Value** |
|----------------------------------------------------------------------------|-----------------------------------|
| Securities registered pursuant to Section 12(g) of the Act:      | **Not Applicable**                |
| Name of Each Exchange on Which Registered:                                 | **NASDAQ Stock Market LLC**       |

 

Indicated by check mark if the registrant is awell-known seasoned issuer, as defined in Rule 405 of the SecuritiesAct.  Yes o No x

 

Indicated by check mark if the registrant is not required to filereports pursuant to Section 13 or Section 15(d) of the Act.  Yes o No x

 

Indicate by check mark whether the registrant (1) hasfiled 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) hasbeen subject to such filing requirements for the past 90 days.  Yes x Noo

 

Indicate by check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-B is not contained herein, and willnot be contained, to the best of Registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this form 10-K.  o

 

Indicate by check mark whether the Registrant is alarge accelerated filer, an accelerated filer, a non-accelerated filer or asmaller reporting company.  Seedefinition of “accelerated filer and large accelerated filer” in Rule 12b-2of the Exchange Act.  (Check One)

 

Large Accelerated filer  o  Acceleratedfiler  o  Non-accelerated filer  x  Smaller Reporting Company  o  

 

Indicate by check mark whether the registrantis a Shell Company (as defined in Rule 12b-2 of the Act)  Yes  o  No  x

 

For the year ending December 31, 2008 theRegistrant’s revenues were $21,513,000. As of June 30, 2008 the last business day of the Registrant’s mostrecently completed second fiscal quarter, the aggregate market value of thevoting stock held by non — affiliates of the Registrant was approximately $23.0million based on the NASDAQ closing price on that date of $6.30 per share.

 

Shares of Common Stock held by each officer anddirector and each person owning more than five percent of the outstandingCommon Stock have been excluded in that such persons may be deemed to beaffiliates.  This determination of theaffiliate status is not necessarily a conclusive determination for otherpurposes.  The number of shares of CommonStock of the registrant outstanding as of March 2, 2009 was 5,794,179 parvalue $0.01.

 

**Documents Incorporated byReference:**

 

Portions of the definitive proxy statement for the2009 Annual Meeting of Shareholders to be filed with Securities and ExchangeCommission pursuant to SEC Regulation 14A are incorporated by reference in Part III,Items 10-14.

 

 

 

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**TABLEOF CONTENTS**

 
| **PART I**   |                                                                                                                    | 3       |
|-------------------|-------------------------------------------------------------------------------------------------------------------------|---------|
|              |                                                                                                                    |    |
| **ITEM  1.**      | **BUSINESS**                                                                                                            | 3       |
| **ITEM 1A.**      | **RISK FACTORS**                                                                                                        | 27      |
| **ITEM 1B.**      | **UNRESOLVED  STAFF COMMENTS**                                                                                          | 36      |
| **ITEM 2.**       | **PROPERTIES**                                                                                                          | 36      |
| **ITEM 3.**       | **LEGAL PROCEEDINGS**                                                                                                   | 38      |
| **ITEM 4.**       | **SUBMISSION  OF MATTERS TO A VOTE OF SECURITY HOLDERS**                                                                | 39      |
|              |                                                                                                                    |    |
| **PART II**  |                                                                                                                    | 39      |
|              |                                                                                                                    |    |
| **ITEM 5.**       | **MARKET FOR  REGISTRANT’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES  OF EQUITY SECURITIES** | 39      |
| **ITEM 6.**       | **SELECTED FINANCIAL  DATA**                                                                                            | 43      |
| **ITEM 7.**       | **MANAGEMENT’S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**                         | 44      |
| **ITEM 7A.**      | **QUANTITATIVE  AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**                                                         | 85      |
| **ITEM 8.**       | **FINANCIAL  STATEMENTS AND SUPPLEMENTARY DATA**                                                                        | 88      |
| **ITEM 9.**       | **CHANGES IN  AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**                               | 134     |
| **ITEM 9A(T).**   | **CONTROLS AND  PROCEDURES**                                                                                            | 134     |
| **ITEM 9B.**      | **OTHER INFORMATION**                                                                                                   | 134     |
|              |                                                                                                                    |    |
| **PART III** |                                                                                                                    | 135     |
|              |                                                                                                                    |    |
| **ITEM 10.**      | **DIRECTORS,  EXECUTIVE OFFICERS AND CORPORATE GOVERANCE**                                                              | 135     |
| **ITEM 11.**      | **EXECUTIVE  COMPENSATION**                                                                                             | 135     |
| **ITEM 12.**      | **SECURITY  OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER  MATTERS**                    | 135     |
| **ITEM 13.**      | **CERTAIN  RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE**                                           | 135     |
| **ITEM 14.**      | **PRINCIPAL  ACCOUNTANT FEES AND SERVICES**                                                                             | 135     |
|              |                                                                                                                    |    |
| **PART IV**  |                                                                                                                    | 137     |
|              |                                                                                                                    |    |
| **ITEM 15.**      | **EXHIBITS**                                                                                                            | 137     |
| ** **        |                                                                                                                    |    |
| **SIGNATURES**    |                                                                                                                    | 154     |
|              |                                                                                                                    |    |
| **Appendices**    |                                                                                                                    | 139-153 |

 

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**PART I**

 

ThisAnnual Report and Form 10-K may be deemed to include forward lookingstatements, which management believes are a benefit to shareholders.  These forward looking statements describemanagement’s expectations regarding future events and developments such asfuture operating results, changes in volumes of loans and deposits, continuedsuccess of the Company’s style of banking and providing financial services andthe strength or weakness of the local economies.  The word “will,” “believe,” “expect,” “should,”and “anticipate” and words of similar construction are intended in part to helpidentify forward looking statements. Future events are difficult to predict, and the expectations describedabove are subject to risk and uncertainty that may cause actual results todiffer materially and adversely.  Inaddition to discussions about risks and uncertainties set forth from time totime in the Company’s filings with the Securities and Exchange Commission (“SEC”),factors that may cause actual results to differ materially from thosecontemplated by such forward looking statements include, among others, thefollowing possibilities:  (1) local,national, and international economic conditions are less favorable thanexpected or have a more direct and pronounced effect on the Company thanexpected and adversely affect the Company’s ability to continue its internalgrowth at historical rates and maintain the quality of its earning assets;  (2) changes in interest rates reduceinterest margins more than expected and negatively affect funding sources;  (3) projected business increasesfollowing strategic expansion or opening or acquiring new branches are lowerthan expected; (4) costs or difficulties related to the integration ofacquisitions are greater than expected; (5) competitive pressure amongfinancial institutions increases significantly; (6) legislation orregulatory requirements or changes adversely affect the businesses in which theCompany is engaged; and (7) the Company’s inability to realize theefficiencies it expects to receive from its investments in personnel andinfrastructure.

 

**ITEM 1.     BUSINESS**

 

**The Company**

 

**The BankHoldings**

 

The Bank Holdings (the “Company”) is a bankholding company incorporated in Nevada on January 17, 2003 and registeredunder the Bank Holding Company Act of 1956, as amended.  We conduct banking operations through ourprincipal subsidiary, Nevada Security Bank (the “Bank”), a Nevadastate-chartered commercial bank which also operates in northern Californiaunder the name Silverado Bank.  We andNevada Security Bank are both headquartered in Reno, Nevada at 9990 Double RBoulevard.  We acquired all of theoutstanding shares of Nevada Security Bank on August 29, 2003.  On November 6, 2006, the Company acquiredthrough merger NNB Holdings, Inc. in Reno, Nevada and its subsidiary bankNorthern Nevada Bank whose branches became part of Nevada Security Bank.

 

During the first quarter of 2006, the Companyacquired two qualified intermediary (the “QI”) companies, Rocky MountainExchange (formerly known as Big Sky Property Exchange) and 75% of GraniteExchange, Inc., which facilitate tax-deferred real estate transactionsunder Section 1031 of the Internal Revenue Code.  In January 2007 the Company acquired anadditional 5% of Granite Exchange, Inc. from one of its minorityshareholders, which increased the Company’s ownership to 80% and allowed theCompany to include Granite Exchange in its consolidated tax returns.  Effective February 1, 2008 the Companyacquired the remaining 20% of Granite Exchange at a predetermined cost ofapproximately $1.0 million and is now the sole owner.  The Company closed the Rocky MountainExchange office located in Bozeman, Montana effective July 31, 2008 and asa result the Company recorded an impairment charge to goodwill in the amount of$120,000 during the third quarter of 2008. Granite Exchange is headquartered in Roseville, California.  Qualified intermediaries select the financialinstitution to hold depositor accounts created as part of the exchangetransactions.  The exchange balancesdeposited into the Bank should increase the Bank’s core deposits, decrease theBank’s loan to deposit ratio, and support future loan growth.  These subsidiaries have been consolidated onthe Company’s books.

 

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The Company’s other direct subsidiaries areThe Bank Holdings Statutory Trust I, a Connecticut statutory trust which wasformed in November, 2005 solely to facilitate the issuance of variable ratecapital trust pass through securities, and NNB Holdings Statutory Trust I,which was formed in June 2005 as a subsidiary of NNB Holdings, Inc.and was acquired by the Company in the merger with NNB Holdings, Inc.  NNB Holdings Statutory Trust I is a DelawareStatutory Trust also formed to facilitate the issuance of capital trust passthrough securities.  The additionalregulatory capital generated through the securities has enabled the Company tofollow previously established expansion plans without an impairment ofrisk-based capital ratios.  Pursuant toFASB Interpretation No. 46 *Consolidation of VariableInterest Entities*(FIN 46),**The BankHoldings Statutory Trust**I and NNBHoldings Statutory Trust I are not reflected on a consolidated basis in thefinancial statements of the Company.

 

At December 31, 2008 The Bank Holdingsand its QI subsidiaries have five full and part-time employees who were notalso employees of Nevada Security Bank. The Company exists primarily for the purpose of holding the stock of theBank and of other such subsidiaries it may acquire or establish.  References herein to the “Company” includethe Company and its consolidated subsidiaries, unless the context indicatesotherwise.

 

The Company’s stock is traded on the NASDAQStock Market under the symbol TBHS, and as such, the Company is subject toNASDAQ rules and regulations including those related to corporategovernance.  The Company is also subjectto the periodic reporting requirements of Section 13 of the SecuritiesExchange Act of 1934 (the “Exchange Act”) which requires the Company to fileannual, quarterly and other current reports with the Securities and ExchangeCommission (the “SEC”).  The Company issubject to additional regulations including, but not limited to, the proxy andtender offer rules promulgated by the SEC under Sections 13 and 14 of theExchange Act; the reporting requirements of directors, executive officers andprincipal shareholders regarding transactions in the Company’s common stock andshort-swing profits rules promulgated by the SEC under Section 14 ofthe Exchange Act; and certain additional reporting requirements by principalshareholders of the Company promulgated by the SEC under Section 13 of theExchange Act.

 

Historically the Company’s strategy has beento profitably grow its business through internal growth and selectiveacquisitions.  During 2008 and forwardinto 2009, our strategy is one of retrenchment, consolidation, monitoringcredit quality and weathering the financial storm that has roiled the financialmarkets locally, regionally and nationwide. At December 31, 2008, the Company had consolidated assets of $556million, gross loans of $441.2 million, deposits of $466.0 million andshareholders equity of $37.2 million.

 

The Company’s principal sources of income arefrom interest earning assets held in portfolio, as well as dividends from theBank, which are currently restricted, and the income from the qualifiedintermediary companies.  The Companyintends to explore supplemental sources of income in the future.  The Company’s website iswww.thebankholdings.com.

 

Copies of the Company’s Annual Report on Form 10-K,Quarterly Reports on Form 10-Q, Current Reports on Form 8-K andamendments to those reports filed or furnished pursuant to Section 13(a) or15(d) of the Securities and Exchange Act of 1934 are available free ofcharge through the Company’s website (www.thebankholdings.com) as soon as reasonablypracticable after the Company has filed the material with, or furnished it to,the Securities and Exchange Commission. This information is also available at www.sec.gov, Bank HoldingsCIK#000-1234383.

 

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**The 1031 Division**

 

During March 2006, the Federal ReserveBoard approved the Company’s acquisition of Rocky Mountain Exchange (formerlyBig Sky Property Exchange) of Bozeman, Montana, which was closed July 31,2008 and Granite Exchange Inc., of Roseville, California.  These companies are qualified intermediariesunder Section 1031 of the Internal Revenue Code.  The website for Granite Exchange iswww.ges1031.com.  Granite currently hastwo fulltime equivalent employees.

 

A qualified intermediary (“QI”) is theprofessional provider of the mandatory mechanics of a 1031 exchange.  The use of a qualified intermediary, as anindependent party to facilitate a tax-deferred exchange, is a safe harborestablished by Treasury Regulations. These qualified intermediaries are frequently referred to asaccommodators or exchange facilitators. When the taxpayer engages the services of “QI” pursuant to an exchangeagreement, the IRS does not consider the taxpayer to be in receipt of any fundsfrom the transaction.  The sales proceedsgo directly to the QI, which holds them until they are needed to acquire anyreplacement property.  The QI thendelivers the funds directly to the closing agent who completes, generally witha title company, the deeding of the property directly to the taxpayer.  Without a QI, and pursuant to an exchangeagreement, the IRS may not define a transaction as an exchange, thereby makingit ineligible for tax deferment status.

 

The theory behind Section 1031 is thatwhen a property owner has reinvested the sales proceeds into another property,the economic gain has not been realized in a way that generates funds to payany tax.  This means that the taxpayersinvestment is still the same, only the form has changed (e.g. from a rentalhouse to a rented six-unit apartment building). Therefore, it would be unfair to force the taxpayer to pay tax on a “form,not substance”, transfer.  Theselike-kind exchanges under Section 1031 are tax deferred, nottax-free.  When the replacement propertyis ultimately sold, not as part of another exchange, the original deferred gainplus any additional gain realized since the purchase of the replacementproperty, is subject to tax.

 

The Company, through its 1031 Division,places funds that may be generated from such transactions in the subsidiarybank or in other financial institutions where at least a portion of such fundsare guaranteed by FDIC insurance.  Suchfunds are of a short term (less than 180 days until maturity) nature and aretraditionally characterized as savings or money market deposits.

 

The address of the Company’s 1031 QI iscontiguous with our Roseville branch office at:

 
| **Granite Exchange:** | 2270 Douglas Blvd., Suite 200 |
|-----------------------|------------------------------------|
|                  | Roseville, California  95661       |
|                  | (877) 937-1031                     |
|                  | Purchased: March 28,  2006    |

 

**The Bank**

 

**NevadaSecurity Bank**

 

Nevada Security Bank was incorporated underthe laws of the State of Nevada on February 26, 2001, 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.

 

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Nevada Security Bank (“NSB”) operates fromits head office in Reno, Nevada. Additional Reno branches are Moana and MaeAnne.  The Bank also has branch offices in CarsonCity and Incline Village, Nevada as well as Roseville and Rancho Cordova,California.  The Bank formerly had atemporary branch in Sparks, Nevada which was closed in March, 2008.  Incline Village is located on the north shoreof Lake Tahoe, Nevada, approximately 25 miles south of Reno, Nevada.  Roseville and Rancho Cordova are located inthe Sacramento, California environs about 124 miles southwest of Reno, Nevada.These California branches are separately branded as Silverado Bank, a divisionof NSB.  Silverado Bank also focuses ongovernment guaranteed loans through the Small Business Administration orSBA.  The addresses of our locations areas follows:

 

**Northern Nevada**

 
| **Main Office:**        | 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              |
|                    |                              |                        |                                 |
| **MaeAnne Reno:**       | 1680 Robb Drive                   | **Carson City:**            | 3120 Highway 50 East #1              |
|                    | Reno, Nevada 89523                |                        | Carson City, NV 89701                |
|                    | (775) 746-9800                    |                        | (775) 687-2323                       |
|                    | Date of opening: 10/11/04         |                        | Date of Opening: 5/9/05              |
| ** **              | ** **                        | ** **                  | ** **                           |
| **Moana Reno:**         | 3490 So. Virginia St.             | **Operations Center Reno:** | 5450 Riggins Court #5                |
| ** **              | Reno, Nevada 89502                |                        | Reno, Nevada                         |
|                    | (775) 689-6555                    |                        | (775) 689-6575                       |
|                    | Date of Opening: 10/23/00         |                        | Date of Opening: 8/11/00             |
|                    |                              |                        |                                 |
| **Northern California** |                              |                        |
|                    |                              |                        |                                 |
| **Roseville:**          | 2270 Douglas Blvd., Ste  220      | **Rancho Cordova:**         | 2865 Sunrise Blvd. Ste 100           |
|                    | Roseville, California  95661-4239 |                        | Rancho Cordova, CA 95742             |
|                    | (916) 787-1900                    |                        | (916) 288-1500                       |
|                    | Date of opening: 3/18/05          |                        | Date of opening: 6/4/07              |

 

As an independent community orientedcommercial bank, Nevada Security Bank offers a full range of consumer andcommercial banking services primarily to the business and professionalcommunity and individuals located in two primary areas: Washoe and DouglasCounties and Carson City in Nevada and Placer and Sacramento Counties inCalifornia.  Nevada Security Bank has afull complement of lending activities, including commercial and industrial,real estate construction, real estate mortgage, as well as agricultural andconsumer loans with particular emphasis on short and medium-termobligations.  Nevada Security Bank’s loanportfolio is not concentrated in any one industry, although approximately 80%of Nevada Security Bank’s loans are secured by real estate which has notsignificantly changed over the past three years.  A loan may be secured (in whole or in part)by real estate even though the purpose of the loan is not to facilitate thepurchase or development of real estate.

 

As of December 31, 2008, the principalareas in which we directed our lending activities and the percentage of ourtotal loan portfolio for which each of those areas was responsible were asfollows:  (i) loans secured by realestate 80.2%; (ii) commercial and industrial (including USDA) loans,18.0%; and (iii) consumer loans 1.9%. See Appendix 6 for further information.

 

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Nevada Security Bank offers a wide range ofdeposit instruments including personal and business checking accounts andsavings accounts, health savings accounts, interest-bearing negotiable order ofwithdrawal accounts, money market accounts and time certificates of deposit.  Most of Nevada Security Bank’s deposits areattracted from individuals and from small and medium-sized business-relatedsources.  Its deposits are insured underthe Federal Deposit Insurance Act up to applicable limits and subject toregulations by that federal agency.  TheBank is subject to periodic examinations of its operations and verification ofcompliance with applicable laws and regulations issued by the FDIC and theNevada Financial Institutions Division.

 

As of December 31, 2008 the Bank had9,431 deposit accounts with balances totaling approximately $466.0 million, andas of December 31, 2007 there were reported 7,512 deposit accounts withbalances totaling approximately $451.3 million, compared to 9,512 depositaccounts with balances totaling approximately $447.0 million at December 31,2006.  After the data conversion inDecember, 2006 to accommodate the purchase of Northern Nevada Bank, the Companypurged closed and zero balance accounts which led to a reduction of 3,807deposit accounts that were reported open as of December 31, 2006.  We attract deposits through our customeroriented product mix, competitive pricing, and convenient locations where allare provided with the highest level of customer service.  Further, we offer shared ATM and point-of-sale(POS) networks to allow customer access to national and international fundstransfer networks, as well as remote capture devices to speed customer depositfunding efficiency.

 

In addition to the loan and deposit services,Nevada 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 foreign drafts. Nevada Security Bank does not operate a trust department; however, ithad, prior to December 31, 2008, made an arrangement with a private trustcompany to offer trust services to its customers on request.  It is uncertain at this time whether such anarrangement may be made with another local trust company during 2009.  Most of Nevada Security Bank’s businessoriginates from within Washoe and Douglas Counties and Carson City, Nevada;however, the six counties which comprise the Sacramento, California SMSAprovide a substantial source of additional business through Silverado Bank, adivision of Nevada Security Bank. Neither Nevada Security Bank’s business norliquidity is seasonal, and there have been no material effects upon NevadaSecurity Bank’s capital expenditures, earnings or competitive position as aresult of federal, state or local environmental regulation.

 

**The Company**

 

The Company has not engaged in any materialresearch activities relating to the development of new products or servicesduring the last two fiscal years, however, a substantial investment of time andintellectual capital has been directed to the improvement of existing Bankservices during the last twenty-four months. Further, the officers and employees of the Bank are continually engagedin marketing activities, including the evaluation and development of newproducts and services, among which are “no service charge checking”, onlineaccounts opening, electronic lock-box and more comprehensive electronic bankingcapabilities (such as mobile banking) to enable the Bank to retain and improveits competitive position in its service areas. During 2007 the Bank implemented remote deposit capture and grew thebusiness to over 40 customers with balances in excess of $20 million.  Other 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 single customer or group of related customersfor a material portion of our deposits, nor are a material portion of our loansconcentrated within a single industry or group of related industries except asnoted in “Management’s Discussion and Analysis of Financial Condition andResults of Operations.”  The amountsexpended in compliance with new government and regulatory initiatives relatedto anti-terrorism, corporate responsibility, and customer privacy havesubstantially increased over the past few years, and the amount specificallyrelated to Sarbanes-Oxley Section 404 compliance is anticipated tomoderate during 2009 and subsequent years due to our heavy involvement incompliance during the past two years.

 

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Our mission is to be an organization ofexcellence by:

 

·                  Providingquality banking products and services, offered personally and professionally;

·                  Committing ourresources, energy and leadership to our communities;

·                  Creating valuefor our shareholders;

·                  Conducting ourbusiness with integrity and respect for all; and

·                  Fulfillingpotential opportunities for growth and 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 changes, and improve our efficiency ratio as we leverage our knowledgebase, personnel and economic capital.

 

**Safety and Soundness Standards**

 

The federal banking agencies have adoptedguidelines establishing safety and soundness standards for all insureddepository institutions.  Thoseguidelines relate to internal controls, information systems, internal auditsystems, loan underwriting and documentation, compensation and interest rateexposure.  In general, the standards aredesigned to assist the federal banking agencies in identifying and addressingproblems at insured depository institutions before capital becomes impaired.  If an institution fails to meet thesestandards, the appropriate federal banking agency may require the institutionto submit a compliance plan and may institute enforcement proceedings if anacceptable compliance plan is not submitted.

 

**Competition**

 

There are a large number of depositoryinstitutions including savings banks, commercial banks, and credit unions innorthern Nevada and the northern California counties in which the Company hasoffices.  The Bank, like other depositoryinstitutions, is operating in a rapidly changing environment.  Non-depository financial service institutionsprimarily in the securities and insurance industries have become competitorsfor retail savings and investment funds. Mortgage banking/brokerage firms are actively competing for residentialmortgage business.  In addition to offeringcompetitive interest rates, the principal methods used by banking institutionsto attract deposits include the offering of a variety of services andconvenient office locations and business hours. The primary factors in competing for loans are interest rates and rateadjustment provisions, loan maturities, loan fees, and the quality of serviceto borrowers and brokers.

 

Nevada Security Bank competes for loans anddeposits with other commercial banks, savings and loan associations, financecompanies, money market funds, credit unions and other financial institutions,including a number that are much larger than Nevada Security Bank.  As of June 30, 2008, the most recentdate for which data is available from the FDIC, there were 94 banking offices,including 53 offices of three major chain banks (Bank of America, US Bank andWells Fargo), operating within Nevada Security Bank’s primary market area inWashoe County.  These three major chainbanks were reported to have held 14.1% of the deposits in Washoe County at June 30,2008. Further, the single Charles Schwab Bank NA office alone holds anadditional 74.6% or $19.9 billion of the county’s reported total deposits.Realistically, Schwab Bank is an accumulator of funds for the related brokeragefirm, and locally reported deposits are not generated from a local customerbase.  Nevada Security Bank’s share ofsuch market at that date was reported to be 1.46% of the county’s $26.7 billiondeposit base (5.74% exclusive of Schwab), as compared to 2.34% of the county’s$18.7 billion deposit base on June 30, 2007 (6.24% exclusive of Schwab),and compared to 1.78% of the county’s $15.2 billion deposit base at June 30,2006.  At June 30, 2008 the Bank wasthe largest independent bank headquartered in northern Nevada.  Of the $8.0 billion change in the county’sdeposit base between June 30, 2007 and 2008, $8.2 billion or 103% wasrepresented by the Schwab office.

 

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There has been increased competition fordeposit and loan business over the last several years as a result ofderegulation.  Many of the majorcommercial banks operating in Nevada Security Bank’s market areas offer certainservices, such as trust and international banking services, which NevadaSecurity Bank does not offer directly. Additionally, banks with larger capitalization have larger lendinglimits and are thereby able to serve larger customers.  At December 31, 2008, the legal lendinglimit for Nevada Security Bank was approximately $14.8 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 areable to compete across geographic boundaries that are blocked to us and providecustomers with alternatives to traditional banking services and nearly allsignificant products.  These competitivetrends are likely to continue.

 

In addition to competition from insureddepository institutions, principal competitors for deposits and loans have beenmortgage companies, insurance companies, investment brokerage houses, creditcard companies and even retail establishments offering investment vehicles suchas mutual funds, annuities and money market funds, as well as traditionalbank-like services such as check access to money market funds or cash advanceson credit card accounts. Further, the advent of prepaid credit, gift, andloyalty cards, as well as re-loadable prepaid cards with which a consumer maydelay purchase, have come into active use and have drained deposits from thebanking system.

 

In order to compete with the other financialinstitutions in its principal marketing areas, Nevada Security Bank reliesprincipally upon local marketing and promotional activities, personal contactsby its officers, directors and employees, and close connections within itscommunities.

 

The Bank primarily targets its general commercialbanking services to businesses, professional concerns, developers andindividuals residing in or doing business in the greater Reno, Sparks, CarsonCity and Incline Village communities in northern Nevada, and the Roseville andRancho Cordova communities in northern California.  As an independent community bank, managementemphasizes quality service, efficiency and personal attention to the needs ofits customers.  The Bank’s wide range ofdeposit accounts is designed to attract businesses, professionals andindividuals as depositors.  Managementhas hired competent and professional banking staff in its branches to focus onthe financial needs of its customers, and various promotional opportunitieshave been made available to customers through newspaper advertising and flyers,brochures, and other media.

 

The Bank’s full complement of lendingproducts includes commercial lines of credit and term loans, credit lines toindividuals, checking overdraft credit lines, commercial 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 offeredinclude auto loans, home improvement loans, and home equity lines ofcredit.  To accommodate borrowers withloan requests which exceed the Bank’s legal lending limit, the Bank hasestablished participation arrangements with correspondent banks to facilitateapproval and funding.  The Bank does notpursue subprime lending opportunities. Management has hired a professional and competent lending staffcomprised of numerous commercial and real estate lenders with substantial yearsof knowledge, experience and expertise in the northern Nevada and northernCalifornia markets.  These individualshave expertise in consumer, real estate and commercial lending, in addition tocurrent knowledge of government lending programs, and all areas of depositmanagement facilities.  When competingone-on-one with the chain banks, we feel our strength lies in our capabilitiesat the individual level.

 

The Bank offers other services including aninternet banking alternative, cash management, remote deposit capture, creditcards, wire transfers, ATM networks, night depository facilities, safe depositboxes, etc.  All services stressconvenient, personal attention and efficient, timely presentation for the Bank’sclientele base.  

 

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In certain instances, we can also makeavailable certain services from correspondent banks, while we also providetechnological alternative delivery channels available through our website andthe ever-present capabilities of our well-seasoned and capable staff.

 

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 Bankrelies on its independent status, flexibility and timely response to providegreater personal service to customers. 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 prides itself on being a local bankfor local people and businesses.

 

**Employees**

 

As of December 31, 2008, the Company had99 employees. Of these, Nevada Security Bank had 94 employees, the 1031division had four and the parent had one full time employee.  On a full-time equivalent basis, the Company’sstaff level was 98.5 at December 31, 2008, as compared to 118.1 at December 31,2007 and 115.7 at December 31, 2006. Staff has been reduced through attrition during 2008, a circumstancethat is likely to continue during 2009. None of our employees is represented by a union or covered by acollective bargaining agreement. Management of the Company believes its employee relations aresatisfactory.

 

**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 isintended primarily for the protection of depositors and the insurance funds administeredby the FDIC and not for the protection 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 in applicable status, regulations orregulatory policy may have a material effect on our business. The followingdiscussion of statutes and regulations is only a brief summary and does notpurport to be complete.  This discussionis qualified in its entirety by reference to such statutes andregulations.  No assurance can be giventhat 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 of1934 (the “Exchange Act”) which require the Company to file annual, quarterlyand other current reports with the Securities and Exchange Commission (the “SEC”).  The Company is also subject to additionalregulations including, but not limited to, the proxy and tender offer rules promulgatedby the SEC under Sections 13 and 14 of the Exchange Act; the reportingrequirements of directors, executive officers and principal shareholdersregarding transactions in the Company’s Common Stock and short—swing profits rules promulgatedby the SEC under Section 16 of the Exchange Act; and certain additionalreporting requirements by principal shareholders of the Company promulgated bythe SEC under Section 13 of the Exchange Act.

 

The Company is a bank holding company withinthe meaning of the Bank Holding Company Act of 1956 (“BHCA”) and is registeredas such with the Federal Reserve Board. A bank holding company is required to file with the Federal ReserveBoard annual reports and other information regarding its business operationsand those of its subsidiaries.  It isalso subject to examination by the Federal Reserve Board and is required toobtain Federal Reserve Board approval before acquiring, directly or indirectly,ownership or control of any voting shares of any bank if, after suchacquisition, it would directly or indirectly own or control more than 5% of thevoting stock of that bank, unless its already owns a majority of the votingstock of that bank.

 

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The Federal Reserve Board has by regulation determined certainactivities through which a bank holding company may or may not conductbusiness.  A bank holding company mustengage, with certain exceptions, in the business of banking or managing orcontrolling banks or furnishing services to or performing services for itssubsidiary banks.  The permissibleactivities and affiliations of certain bank holding companies have recentlybeen expanded.  (See “FinancialModernization Act” below.)

 

The Company, its qualified intermediary exchange companies and Bank aredeemed to be affiliates of each other within the meaning set forth in theFederal Reserve Act and are subject to Sections 23A and 23B of the FederalReserve Act.  This means, for example,that there are limitations on loans by the Bank to affiliates and that allaffiliate transactions must satisfy certain limitations and otherwise be onterms and conditions at least as favorable to the Bank as would be availablefor non-affiliates.

 

The Federal Reserve Board has a policy that bank holding companies mustserve as a source of financial and managerial strength to their subsidiarybanks.  It is the Federal Reserve Bank’sposition that bank holding companies should stand ready to use their availableresources to provide adequate capital to their subsidiary banks during periodsof financial stress or adversity.  Bankholding companies should also maintain the financial flexibility andcapital-raising capacity to obtain additional resources for assisting theirsubsidiary banks.

 

The Federal Reserve Board also has the authority to regulate bankholding company debt, including the authority to impose interest rate ceilings andreserve 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.

 

**The Bank**

 

As a Nevada state—chartered bank whose interest bearing accounts areinsured by the FDIC up to a maximum of $250,000 per depositor and whose demandaccounts and interest bearing checking accounts are fully insured by the FDICif they are being paid an interest rate less than 0.05% under statute until December 31,2009, the Bank is subject to regulation, supervision and regular examination bythe Nevada Financial Institutions Division (the “FID”) and the FDIC.  In addition, while the Bank is not a memberof the Federal Reserve System, it is subject to certain regulations of theFederal Reserve Board.  The regulationsof these agencies govern most aspects of the Bank’s business, including themaking of periodic reports by the Bank and the Bank’s activities relating todividends, investments, loans, borrowings, capital requirements, certaincheck-clearing activities, branching, mergers and acquisitions, reservesagainst deposits and numerous other areas. Supervision, legal action and examination of the Bank by the FID and FDICis generally intended to protect depositors and is not intended for theprotection of shareholders.

 

The earnings and growth of the Bank are largely dependent on itsability to maintain a favorable differential or “spread” between the yield onits interest-earning assets and the rates paid on its deposits and otherinterest-bearing liabilities.  As aresult, the Bank’s performance is influenced by general economic conditions,both domestic and foreign, the monetary and fiscal policies of the federal government,and the policies of the regulatory agencies, particularly the Federal ReserveBoard.  The Federal Reserve Boardimplements national monetary policies (such as seeking to stimulate growth andcombat recession) by its open market operations in United States Governmentsecurities, by adjusting the required level of reserves for financialinstitutions 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 FederalReserve Board in these areas influence the growth of bank loans, investmentsand deposits and also affect interest rates charged on loans and interest ratespaid on deposits.  The nature and impactof changes in monetary policies during late 2008 and early 2009 have been majorand precipitous.  The nature of anyfuture changes in monetary policies, given the extreme uncertainties in theinternational and national economies, is uncertain and cannot be reasonablypredicted.

 

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**Capital Adequacy Requirements**

 

The Company and the Bank are subject to the regulations of the FederalReserve Board and the FDIC, respectively, governing capital adequacy.  The Bank and the Company at December 31, 2008exceeded all regulatory minimums.  Thoseregulations incorporate both risk-based and leverage capital requirements.  Each of the federal regulators has establishedrisk-based and leverage capital guidelines for the banks or bank holdingcompanies they regulate, which set total capital requirements and definecapital in terms of “core capital elements,” or Tier 1 capital; and “supplementalcapital elements,” or Tier 2 capital. Tier 1 capital is generally defined as the sum of the core capitalelements less goodwill and certain other deductions, notably the unrealized netgains or losses (after tax adjustments) on available for sale investmentsecurities carried at fair market value. The following items are defined as core capital elements:  (i) common shareholders’ equity; (ii) qualifyingnon-cumulative perpetual preferred stock and related surplus (not to exceed 25%of tier 1 capital); and (iii) minority interest in the equity ofconsolidated subsidiaries.  Supplementarycapital elements include:  (i) allowancefor loan and lease losses (but not more than 1.25% of an institution’srisk-weighted assets); (ii) perpetual preferred stock and related surplusnot qualifying as core capital; (iii) hybrid capital instruments,perpetual debt and mandatory convertible debt instruments; and (iv) termsubordinated debt and intermediate-term preferred stock and relatedsurplus.  The maximum amount ofsupplemental capital elements which qualifies as Tier 2 capital is limited to100% of Tier 1 capital, net of goodwill.

 

The minimum required ratio of qualifying capital to total risk-weightedassets is 8.0% (“Total Risk-Based Capital Ratio”), at least one-half of whichmust be in the form of Tier 1 capital, and the minimum required ratio of Tier 1capital to total risk-weighted assets is 4.0% (“Tier 1 Risk-Based Capital Ratio”).  Risk-based capital ratios are calculated toprovide a measure of capital that reflects the degree of risk associated with abanking organization’s operations for both transactions reported on the balancesheet as assets, and transactions, such as letters of credit and recoursearrangements, which are recorded as off-balance sheet items.  Under the risk-based capital guidelines, thenominal dollar amounts of assets and credit-equivalent amounts of off-balancesheet items are multiplied by one of several risk adjustment percentages, whichrange from 0% for assets with low credit risk, such as certain U.S. Treasurysecurities, to 100% for assets with relatively high credit risk, such asbusiness loans.  As of December 31,2008 and 2007, the Bank was “well-capitalized” by regulatory standards and theBank’s Total Risk-Based Capital ratios were 10.58% and 10.97%, respectively,and its Tier 1 Risk-Based Capital Ratios were 9.33% and 9.71%, respectively.

 

The risk-based capital requirements also take into accountconcentrations of credit (i.e., relatively large proportions of loans involvingone borrower, industry, location, collateral or loan type) and the risks of “non-traditional”activities (those that have not customarily been part of the bankingbusiness).  The regulations requireinstitutions with high or inordinate levels of risk to operate with higher minimumcapital standards, and authorize the regulators to review an institution’smanagement of such risks 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 rate risk is the exposure of a bank’scurrent and future earnings and equity capital arising from adverse movementsin interest rates.  While interest raterisk is inherent in a bank’s role as financial intermediary, it introducesvolatility to earnings and to the economic value of the bank.

 

The FDIC and the Federal Reserve Board also require the maintenance ofa leverage capital ratio designed to supplement risk-based capitalguidelines.  Banks and bank holdingcompanies that have received the highest rating of the five categories used byregulators to rate banks and are not anticipating or experiencing any 

 

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significant growth must maintain a ratio of Tier 1 capital (net of allintangibles) to adjusted total assets (“Leverage Capital Ratio”) of at least3%.  All other institutions are requiredto maintain a leverage ratio of at least 100 to 200 basis points above the 3%minimum, for a minimum of 4% to 5%. Pursuant to federal regulations, banks must maintain capital levelscommensurate with the level of risk to which they are exposed, including thevolume and severity of problem loans; federal regulators may, however, sethigher capital requirements when a bank’s particular circumstanceswarrant.  The Bank’s Tier 1 Capital toAverage Assets (Leverage Capital Ratio) was 7.94% and 8.60% on December 31,2008 and 2007 respectively.  As of December 31,2008, the Company’s leverage capital ratio was 8.89%, as compared to 10.39% at December 31,2007.  Both of these ratios exceededregulatory minimums.

 

For more information on the Company’s capital, see Part II, Item7, Management’s Discussion and Analysis of Financial Condition and Results ofOperations—Capital Resources.  Risk—basedcapital ratio requirements are discussed in greater detail in the followingsection.

 

**Prompt Corrective Action Provisions**

 

Federal law requires each federal banking agency to take promptcorrective action to resolve the problems of insured financial institutions,including but not limited to those that fall below one or more prescribedminimum capital ratios.  The federalbanking agencies have by regulation defined the following five capitalcategories:  “well—capitalized” (TotalRisk—Based Capital Ratio of 10%; Tier 1 Risk-Based Capital Ratio of 6%; andLeverage Ratio of 5%); “adequately capitalized” (Total Risk—Based Capital Ratioof 8%; Tier 1 Risk-Based Capital Ratio of 4%; and Leverage Ratio of 4% or 3% ifthe institution receives 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 itwere in the next lower capital category if after notice and the opportunity fora hearing, the appropriate federal agency finds an unsafe or unsound conditionor practice so warrants, but no bank may be treated as “criticallyundercapitalized” unless its actual capital ratio warrants such treatment.

 

At each successively lower capital category, an insured bank is subjectto increased restrictions on its operations. For example, a bank is generally prohibited from paying management feesto any controlling persons or from making capital distributions if to do sowould make the bank “undercapitalized.” Asset growth and branching restrictions apply to undercapitalized banks,which are required to submit written capital restoration plans meetingspecified requirements (including a guarantee by the parent holding company, ifany).  “Significantly undercapitalized”banks are subject to broad regulatory authority, including among other things,capital directives, forced mergers, restrictions on the rates of interest theymay pay on deposits, restrictions on asset growth and activities, andprohibitions on paying bonuses or increasing compensation to senior executiveofficers without FDIC approval.  Evenmore severe restrictions apply to critically undercapitalized banks.  Most importantly, except under limitedcircumstances, not later than 90 days after an insured bank becomes criticallyundercapitalized, the appropriate federal banking agency is required to appointa conservator or receiver for the bank.

 

In addition to measures taken under the prompt corrective actionprovisions, insured banks may be subject to potential actions by the federalregulators for unsafe or unsound practices in conducting their businesses orfor violations of any law, rule, regulation or any condition imposed in writingby the agency or any written agreement with the agency.  Enforcement actions may include the issuanceof cease and desist orders, termination of insurance of deposits (in the caseof a bank), the imposition of civil money penalties, the issuance of directivesto increase capital, formal and informal agreements, or removal and prohibitionorders against “institution—affiliated” parties.

 

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**Safety and Soundness Standards**

 

The federal banking agencies have also adopted guidelines establishingsafety and soundness standards for all insured depository institutions.  Those guidelines relate to internal controls,information systems, internal audit systems, loan underwriting anddocumentation, compensation and interest rate exposure.  In general, the standards are designed toassist the federal banking agencies in identifying and addressing problems atinsured depository institutions before capital becomes impaired.  If an institution fails to meet thesestandards, the appropriate federal banking agency may require the institutionto submit a compliance plan and may institute enforcement proceedings if anacceptable compliance plan is not submitted.

 

**Premiums for Deposit Insurance**

 

The Bank is a member of the Deposit Insurance Fund (“DIF”) maintainedby the FDIC.  Through the DIF, the FDICinsures the deposits of the Bank up to prescribed limits for eachdepositor.  The DIF was formed March 31,2006 upon the merger of the Bank Insurance Fund and the Savings Insurance Fundin accordance with the Federal Deposit Insurance Reform Act of 2005.  The Act established a range of 1.15% to 1.50%within which the FDIC Board of Directors may set the Designated Reserve Ratio (“DRR”).  The current target DRR is 1.25%.  However, the Act has eliminated therestrictions on premium rates based on the DRR and grants the FDIC Board thediscretion to price deposit insurance according to risk for all insuredinstitutions regardless of the level of the reserve ratio.

 

The FDIC regulations also implement a risk—based premium system,whereby insured depository institutions are required to pay insurance premiumsdepending on their risk category.  Underthis system, the FDIC places each institution in one of four risk categoriesusing a two-step process based first on capital ratios (the capital groupassignment) and then on other relevant information (the supervisory groupassignment).  Within the lowest riskcategory, Risk Category I, rates will vary based on each institution’s CAMELScomponent ratings and certain financial ratios (for most institutions) andlong-term debt issuer ratings (for large institutions that have such a rating).

 

The capital group assignments are made quarterly based on data reportedin an institution’s Report of Income and Condition (Call Reports).  The supervisory group assignments are madebased on the consideration of supervisory evaluations provided by theinstitution’s primary federal regulator. The supervisory evaluations include the results of examination findingsby the primary regulator, as well as other information the primary regulatordetermines to be relevant.  In addition,the FDIC will take into consideration such other information (such as stateexamination findings, if appropriate) as it determines to be relevant to theinstitution’s financial condition and the risk posed to the Deposit InsuranceFund.  There are three supervisorygroups: Group A, Group B and Group C. Group A consists of financially sound institutions with only a few minorweaknesses and generally corresponds to the primary federal regulator’scomposite rating of “1” or “2.”  Group Bconsists of institutions that demonstrate weaknesses which, if not corrected,could result in significant deterioration of the institution and increased riskof loss to the DIF.  This groupassignment generally corresponds to the primary federal regulator’s compositerating of “3.”  Group C consists ofinstitutions that pose a substantial probability of loss to the DIF unlesseffective corrective action is taken. This group assignment generally corresponds to the primary federalregulator’s composite rating of “4” or “5.”

 

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For the year ended December 31, 2008, the base assessment rates(expressed as cents per $100 of deposits) were as follows:

 
| ** **              | ** ** | **Supervisory Group** | ** ** |
|-------------------------|------------|----------------------------|------------|
| **Capital Group**  | ** ** | **A**                      | ** ** | **B** | ** ** | **C** | ** ** |
| Well Capitalized        |       | I

5-7                     |       | II

10 |   | III

28 |   |
| Adequately  Capitalized |       |                       |
| Undercapitalized        |       | III

28                    |       | IV

43 |   |

 

On December 16, 2008, the FDIC adopted a final rule increasingassessments of insured institutions for the first quarter of 2009.  The FDIC assessments are due quarterly from insuredinstitutions.  Rates are determined afterthe end of each quarter and collected at the end of the following quarter.  The rate charged varies based on aninstitution’s risk.  The increase isseven basis points for each category, so that the assessments (which arecurrently between 5 and 43 basis points) will span between 12 and 50 basispoints for the first quarter of 2009.

 

All FDIC-insured depository institutions must also pay an annualassessment to pay interest on bonds issued by the Financing Corporation, afederal corporation chartered under the authority of the Federal HousingFinance Board.  The bonds (commonlyreferred to as FICO bonds) were issued to capitalize the Federal Savings andLoan Insurance Corporation.  FDIC-insureddepository institutions paid approximately 1.10 to 1.14 cents per $100 ofassessable deposits in 2008.  The FDICestablished the FICO assessment rate effective for the first quarter of 2009 atapproximately 1.14 cents annually per $100 of assessable deposits.

 

On February 27, 2009 the FDIC Board of Directors adopted aninterim rule that will impose a special assessment of 20 basis points forall insured institutions, and implement changes to the risk-based assessmentsystem adopted in December.  The specialassessment will be calculated for the quarter ending June 30, 2009 andwill be collected on September 30, 2009. The rule allows for an additional 10 basis point assessment after June 30th, should the Board ofDirectors find it necessary.

 

**Community Reinvestment Act**

 

The Bank is subject to certain requirements and reporting obligationsinvolving Community Reinvestment Act (“CRA”) activities.  The CRA generally requires the federalbanking agencies to evaluate the record of a financial institution in meetingthe credit needs of its local communities, including low and moderate incomeneighborhoods.  The CRA further requiresthe agencies to take into account a financial institution’s record of meetingits community credit needs when evaluating applications for, among otherthings, domestic branches, consummating mergers or acquisitions, or holdingcompany formations.  In measuring a bank’scompliance with its CRA obligations, the regulators utilize a performance—basedevaluation system which bases CRA ratings on the bank’s actual lending serviceand investment performance, rather than on the extent to which the institutionconducts needs assessments, documents community outreach activities or complieswith other procedural requirements.  Inconnection with its assessment of CRA performance, the FDIC assigns a rating of“outstanding,” “satisfactory,” or “substantial noncompliance.”

 

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

 

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**Other Consumer Protection Laws and Regulations**

 

The bank regulatory agencies are increasingly focusing attention oncompliance with consumer protection laws and regulations.  Examination and enforcement has becomeintense, and banks have been advised to carefully monitor compliance withvarious consumer protection laws and regulations.  The Federal Interagency Task Force on FairLending issued a policy statement on discrimination in home mortgage lendingdescribing three methods that federal agencies will use to provediscrimination:  overt evidence ofdiscrimination, evidence of disparate treatment, and evidence of disparateimpact.  In addition to CRA and fairlending requirements, the Bank is subject to numerous other federal consumerprotection statutes and regulations.  Dueto heightened regulatory concern related to compliance with consumer protectionlaws and regulations generally, the Bank may incur additional compliance costsor be required to expend additional funds for investments in the localcommunities it serves.

 

**Interstate Banking and Branching**

 

The Riegle — Neal Interstate Banking and Branching Efficiency Act of1994 (the “Interstate Banking Act”) regulates the interstate activities ofbanks and bank holding companies and establishes a framework for nationwideinterstate 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 toprohibit interstate mergers with banks in their own state by “opting—out”(enacting state legislation applying equality to all out-of-state banksprohibiting such mergers) prior to June 1, 1997.

 

Since 1995, adequately capitalized and managed bank holding companieshave been permitted to acquire banks located in any state, subject to twoexceptions:  first, any state may stillprohibit bank holding companies from acquiring a bank which is less than fiveyears old; and second, no interstate acquisition can be consummated by a bankholding company if the acquirer would control more than 10% of the depositsheld by insured depository institutions nationwide or 30% or more of thedeposits held by insured depository institutions in any state in which thetarget bank has branches.

 

A bank may establish and operate de novo branches in any state in whichthe bank does not maintain a branch if that state has enacted legislation toexpressly permit all out-of-state banks to establish branches in that state.

 

The changes effected by the Interstate Banking Act have increasedcompetition in the environment in which the Bank operates to the extent that out—of—statefinancial institutions directly or indirectly enter the Bank’s marketareas.  In addition, it appears that theInterstate Banking Act has contributed to the accelerated consolidation of thebanking industry.  While many largeout-of-state banks have already entered the Nevada market as a result of thislegislation, it is not possible to predict the precise impact of thislegislation on the Bank and the Company and the competitive environment inwhich they operate.

 

**Financial Modernization Act**

 

InNovember 1999, the Gramm-Leach-Bliley Act, or the GLB Act, became law,significantly changing the regulatory structure and oversight of the financialservices industry.  Effective March 11,2000, the GLB Act repealed the provisions of the Glass-Steagall Act thatrestricted banks and securities 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 alsopermits qualifying bank holding companies to acquire many types of financialfirms without the FRB’s prior approval.

 

TheGLB Act thus provides expanded financial affiliation opportunities for existingbank holding companies and permits other financial services providers toacquire banks and become bank holding companies without ceasing any existingfinancial activities.  Previously, a bankholding company could only engage in activities that were “closely related tobanking.”  This limitation no longerapplies to bank holding companies that qualify to be treated as financialholding companies.  To qualify as afinancial holding company, a bank holding company’s subsidiary depositoryinstitutions must be well-capitalized, well-managed and have at least a “satisfactory”Community Reinvestment Act examination rating. “Non-qualifying” bank holding companies are limited to activities thatwere permissible under the BHCA as of November 11, 1999.

 

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Alsoeffective on March 11, 2000, the GLB Act changed the powers of nationalbanks and their subsidiaries, and made similar changes in the powers of statebanks and their subsidiaries.  Nationalbanks may now underwrite, deal in and purchase state and local revenuebonds.  A subsidiary of a national bankmay now engage in financial activities that the bank cannot itself engage in,except for general insurance underwriting and real estate development andinvestment.  In order for a subsidiary ofa national bank to engage in these new financial activities, the national bankand its depository institution affiliates must be “well capitalized,” have atleast “satisfactory” general, managerial and Community Reinvestment Actexamination ratings, and meet other qualification requirements relating tototal assets, subordinated debt, capital, risk management, and affiliatetransactions.  Subsidiaries of statebanks can exercise the same powers as national bank subsidiaries if theysatisfy the same qualifying rules that apply to national banks, exceptthat state-chartered banks do not have to satisfy the statutory managerial anddebt rating-requirements of national banks.

 

TheGLB Act also reformed the overall regulatory framework of the financialservices 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 securitieslaws, effective May 12, 2001, the GLB Act removed the blanket exemptionfor banks from being considered brokers or dealers under the SecuritiesExchange Act of 1934 and replaced it with a number of more limitedexemptions.  Thus, previously exemptedbanks may become subject to the broker-dealer registration and supervisionrequirements of the Securities 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 privacy requirements on any company engaged infinancial activities.  Under theserequirements, a financial company is required to protect the security andconfidentiality of customer nonpublic personal information.  Also, for customers who obtain a financialproduct such as a loan for personal, family or household purposes, a financialcompany is required to disclose its privacy policy to the customer at the timethe relationship is established and annually thereafter, including its policiesconcerning the sharing of the customer’s nonpublic personal information withaffiliates and third parties.  If anexemption is not available, a financial company must provide consumers with anotice of its information sharing practices that allows the consumer to rejectthe disclosure of its nonpublic personal information to third parties.  Third parties that receive such informationare subject to the same restrictions as the financial company on the reuse ofthe 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**

 

DuringJuly 2002, President Bush signed into law the Sarbanes-Oxley Act of2002.  The purpose of the Sarbanes-OxleyAct is to protect investors by improving the accuracy and reliability ofcorporate disclosures made pursuant to the securities laws and for otherpurposes.

 

TheSarbanes-Oxley Act amends the Securities Exchange Act of 1934 to prohibit aregistered public accounting firm from performing specified nonaudit servicescontemporaneously 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.  It requires each committee member to be amember of the board of directors of the issuer, and to be otherwiseindependent.  The Sarbanes-Oxley Act furtherrequires the chief executive officer and the chief financial officer of anissuer to make certain certifications as to each annual or quarterly report.

 

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Inaddition, the Sarbanes-Oxley Act requires officers to forfeit specific bonusesand profits under certain circumstances. Specifically, if an issuer is required to prepare an accountingrestatement due to the material noncompliance of the issuer as a result ofmisconduct with any financial reporting requirement under the securities laws,the chief executive officer and the chief financial officer of the issuer shallbe required to reimburse the issuer for (1) any bonus or otherincentive-based or equity-based compensation received by that person from theissuer during the 12-month period following the first public issuance or filingwith the SEC of the financial document embodying such financial reporting requirement;and (2) any profits realized from the sale of securities of the issuerduring that 12-month period.

 

TheSarbanes-Oxley Act also instructs the SEC to require by rule:

 

·                                          disclosure of all materialoff-balance sheet transactions and relationships that may have a materialeffect upon the financial status of an issuer; and

 

·                                          the presentation of proforma financial information in a manner that is not misleading, and which isreconcilable with the financial condition of the issuer under generallyaccepted accounting principles.

 

TheSarbanes-Oxley Act also prohibits insider transactions in the company’s stockheld within its pension plans during lock out periods, and any profits on suchinsider transactions are to be disgorged. In addition, there is a prohibition of company loans to its executives,except in certain circumstances.  TheSarbanes-Oxley Act also provides for a mandated internal control report andassessment with the annual report and an attestation and a report on suchreport by the company’s auditor.  The SECalso requires the issuance of a code of ethics for senior officers of thecompany.  Further, the Sarbanes-Oxley Actadds a criminal penalty of fines and imprisonment of up to 10 years forsecurities fraud.

 

**Regulation W**

 

TheFederal Reserve Board (“FRB”) on October 31, 2002 approved a finalRegulation W that comprehensively implements sections 23A and 23B of theFederal Reserve Act.  Sections 23A and23B and Regulation W restrict loans by a depository institution to itsaffiliates, asset purchases by a depository institution from its affiliates,and other transactions between a depository institution and itsaffiliates.  Regulation W unifies in onepublic document the FRB’s interpretations of sections 23A and 23B.  Regulation W had an effective date of April 1,2003.

 

**Transactionswith Affiliates**

 

Thereare various restrictions on the ability of The Bank Holdings and its non-banksubsidiaries to borrow from and engage in certain other transactions with,Nevada Security Bank.  In general,Sections 23A and 23B of the Federal Reserve Act and the Federal Reserve Board’sRegulation W require that any “covered transactions” of Nevada Security Bank(or its subsidiaries) with an affiliate must be secured by designated amountsof specified collateral and must be limited, as to any one of The Bank HoldingsCompany or its non-bank subsidiaries, to 10% of Nevada Security Bank’s capitalstock and surplus, and, as to The Bank Holdings and all such non-banksubsidiaries in the aggregate, to 20% of Nevada Security Bank’s capital stockand surplus.  “Covered transactions” aredefined by statute to include a loan or extension of credit, as well as apurchase of securities issued by an affiliate, a purchase of assets (unlessotherwise exempted by the Federal Reserve Board) from the affiliate, theacceptance of securities issued by the affiliate as collateral for a loan, andthe issuance of guarantee, acceptance or letter of credit on behalf of anaffiliate.

 

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Inaddition, extensions of credit and other transactions between Nevada SecurityBank and The Bank Holdings or one of its non-bank subsidiaries must be on termsand conditions, including credit standards, that are substantially the same orat least as favorable to Nevada Security Bank as those prevailing at the timefor comparable transactions involving other non-affiliated companies or, in theabsence of comparable transactions, on terms and conditions, including creditstandards, that in good faith would be offered to, or would apply to,non-affiliated companies.

 

**Sourceof Strength Doctrine**

 

FederalReserve Board policy requires bank holding companies to act as a source offinancial and managerial strength to their subsidiary banks.  Under this policy, The Bank Holdings isexpected to commit resources to support Nevada Security Bank, including attimes when The Bank Holdings may not be in a financial position to provide suchresources.  Any capital loans by a bankholding company to any of its subsidiary banks are subordinate in right ofpayment to deposits and to certain other indebtedness of such subsidiarybanks.  The BHC Act provides that, in theevent of a bank holding company’s bankruptcy, any commitment by the bankholding company to a federal bank regulatory agency to maintain the capital ofa subsidiary bank will be assumed by the bankruptcy trustee and entitled topriority of payment.

 

**Regulatory Capital Treatment ofEquity Investments**

 

InDecember of 2001 and January of 2002, the OCC, the FRB and the FDICadopted final rules governing the regulatory capital treatment of equityinvestments in non-financial companies held by banks, bank holding companiesand financial holding companies.  Thefinal rules became effective on April 1, 2002.  The new capital requirements appliedsymmetrically to equity investments made by banks and their holding companiesin non-financial companies under the legal authorities specified in the finalrules.  Among others, these included themerchant banking authority granted by the Gramm-Leach-Bliley Act and the authorityto invest in small business investment companies (“SBICs”) granted by the SmallBusiness Investment Act.  Covered equityinvestments were subject to a series of marginal Tier 1 capital charges, withthe size of the charge increasing as the organization’s level of concentrationin equity investments increases.  Thehighest marginal charge specified in the final rules required a 25 percentdeduction from Tier 1 capital for covered investments that aggregate more than25 percent of an organization’s Tier 1 capital. Equity investments through SBICs are exempt from the new charges to theextent such investments in the aggregate do not exceed 15 percent of thebanking organization’s Tier 1 capital. The new charges would not apply to individual investments made bybanking organizations prior to March 13, 2000.  Grandfathered investments made by state banksunder section 24(f) of the Federal Deposit Insurance Act also are exemptedfrom coverage.

 

**USA Patriot Act**

 

Theterrorist attacks in September 2001 have impacted the financial servicesindustry and led to federal legislation that attempts to address certain issuesinvolving financial institutions.  On October 26,2001, President Bush signed into law the Uniting and Strengthening America byProviding Appropriate Tools Required to Intercept and Obstruct Terrorism Act of2001 (“USA Patriot Act”).

 

Part ofthe USA Patriot Act is the International Money Laundering Abatement andFinancial Anti-Terrorism Act of 2001 (“IMLA”). IMLA authorized the Secretary of the Treasury, in consultation with theheads of other government agencies, to adopt special measures applicable tobanks, bank holding companies, and/or other financial institutions.  These measures included enhancedrecordkeeping and reporting requirements for certain financial transactionsthat are of primary money laundering concern, due diligence requirementsconcerning the beneficial ownership of certain types of accounts, andrestrictions or prohibitions on certain types of accounts with foreignfinancial institutions.

 

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Amongits other provisions, IMLA required each financial institution to: (i) establishan anti-money laundering program; (ii) establish due diligence policies,procedures and controls with respect to its private banking accounts andcorrespondent banking accounts involving foreign individuals and certainforeign banks; and (iii) avoid establishing, maintaining, administering,or managing correspondent accounts in the United States for, or on behalf of, aforeign bank that does not have a physical presence in any country.  In addition, IMLA contained a provisionencouraging cooperation among financial institutions, regulatory authoritiesand law enforcement authorities with respect to individuals, entities andorganizations engaged in, or reasonably suspected of engaging in, terroristacts or money laundering activities. IMLA expanded the circumstances under which funds in a bank account maybe forfeited and required covered financial institutions to respond undercertain circumstances to requests for information from federal banking agencieswithin 120 hours.  IMLA also amended theBHCA and the Bank Merger Act to require the federal banking agencies toconsider the effectiveness of a financial institution’s anti-money launderingactivities when reviewing an application under these acts.  IMLA became effective July 23, 2002.

 

**Merchant Banking Investments**

 

TheFRB and the Secretary of the Treasury in January 2001 jointly adopted afinal rule governing merchant banking investments made by financialholding companies.  The rule implementedprovisions of the Gramm-Leach-Bliley Act discussed above that permit financialholding companies to make investments as part of a bona fide securitiesunderwriting or merchant or investment banking activity.  The rule provided 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 ifthe aggregate carrying value of all merchant banking investments held by thefinancial holding company exceeds:

 

·                                          30 percent ofthe Tier 1 capital of the financial holding company, or

·                                          after excluding interests inprivate equity funds, 20 percent of the Tier 1 capital of the financial holdingcompany

 

**Amendmentsto Regulation H and Y for Trust Preferred Securities**

 

TheFederal Reserve Board issued a final rule on March 1, 2005 thatamended Regulation H and Regulation Y to limit restricted core capital elements(including trust preferred securities) which count as Tier 1 capital to 25percent of all core capital elements, net of goodwill, less any associateddeferred tax liability.  Internationallyactive bank holding companies, defined as those with consolidated assetsgreater than $250 billion or on-balance-sheet foreign exposure greater than $10billion, are subject to a 15 percent limit, but they may include qualifyingmandatory convertible preferred securities up to the generally applicable 25percent limit.  Amounts of restricted corecapital elements in excess of these limits generally may be included in Tier 2capital.  The final rule provided afive-year transition period ending March 31, 2009 for application of thequantitative limits.

 

On November 3, 2005,the Company and its newly formed Connecticut statutory trust subsidiary, TheBank Holdings Statutory Trust I (the “Trust”), entered into a purchaseagreement pursuant to which it was agreed that the Trust would issue $15million of floating interest rate trust preferred securities (the “TrustPreferred Securities”) to Merrill Lynch International.   The Trust Preferred Securities were issuedand sold in a private placement exempt from registration under the SecuritiesExchange Act of 1933, as amended.

 

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The Trust PreferredSecurities are redeemable at the Company’s option 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 Inter-Bank Offered Rate (“LIBOR”) plus 1.42%, which ratethereafter will be reset until maturity.

 

The Trust used theproceeds of the sale of the Trust Preferred Securities to purchase $15 millionof the Company’s floating rate junior subordinated debentures (the “Debentures”).  Like the Trust Preferred Securities, theDebentures bear interest at a floating rate equal to the three month LIBOR plus1.42%.

 

The Debentures willmature on December 15, 2035, but may be redeemed by the Company at itsoption at any time on or after December 15, 2010.

 

As a result of the purchase of and agreement with NNB Holdings, Inc.the Company acquired NNB Holdings Statutory Trust I which was formed in June 2005to issue $5,155,000 of fixed/floating rate Cumulative Trust PreferredSecurities, which are classified as junior subordinated debt.  The fixed rate of 5.95% began on the date ofissuance and will end on (but not including) the interest payment date in June 2010,at which time the interest rate switches to a floating interest rate equal tothe three month LIBOR plus 1.85%.  Theacquired debentures will mature in 2035, but may be redeemed by the Company atits option at any time on or after June 15, 2010 with a payment of apremium as outlined in the indenture agreement.

 

**FinancialServices Regulatory Relief Act of 2006**

 

InOctober 2006, President Bush signed the Financial Services RegulatoryRelief Act of 2006 into law (the “Relief Act”). The Relief Act amended severalexisting banking laws and regulations, eliminated some unnecessary and overlyburdensome regulations of depository institutions and clarified severalexisting regulations. The Relief Act, among other things, (i) authorizedthe Federal Reserve Board to set reserve ratios; (ii) amends national bankregulations relating to shareholder voting and granting of dividends; (iii) amendsseveral provisions relating to such issues as loans to insiders, regulatoryapplications, privacy notices, and golden parachute payments; and (iv) expandsand clarifies the enforcement authority of federal banking regulators. We donot expect that our business, expenses, or operations will be significantlyimpacted by this legislation.

 

**FDIC Reform Act**

On February 8, 2006, President Bush signed The Federal DepositInsurance Reform Act of 2005 (the Reform Act) into law. The Federal DepositInsurance Reform Conforming Amendments Act of 2005, which the President signedinto law on February 15, 2006, contained necessary technical andconforming changes to implement deposit insurance reform, as well as a numberof study and survey requirements. The Reform Act provided for the followingchanges:

 

·                  Merging the Bank InsuranceFund (BIF) and the Savings Association Insurance Fund (SAIF) into a newfund, the Deposit Insurance Fund (DIF). This change was made effective March 31,2006.

 

·                  Increasing thecoverage limit for retirement accounts to $250,000 and indexing the coveragelimit for retirement accounts to inflation as with the general depositinsurance coverage limit. This change was made effective April 1, 2006.

 

·                  Establishing a range of1.15 to 1.50 percent within which the FDIC Board of Directors may setthe Designated Reserve Ratio (DRR).

 

·                  Allowing the FDIC to managethe pace at which the reserve ratio varies within this range.

 

1.               If the reserve ratio fallsbelow 1.15 percent—or is expected to within 6 months—the FDIC mustadopt a restoration plan that provides that the DIF will return to1.15 percent generally within 5 years.

 

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2.               If the reserve ratio exceeds1.35 percent, the FDIC must generally dividend to DIF members half of theamount above the amount necessary to maintain the DIF at 1.35 percent,unless the FDIC Board, considering statutory factors, suspends the dividends.

 

3.               If the reserve ratio exceeds1.5 percent, the FDIC must generally dividend to DIF members all amountsabove the amount necessary to maintain the DIF at 1.5 percent.

 

·                  Eliminating the restrictionson premium rates based on the DRR and granting the FDIC Board the discretion toprice deposit insurance according to risk for all insured institutionsregardless of the level of the reserve ratio.

 

·                  Granting aone-time initial assessment credit (of approximately $4.7 billion) torecognize institutions’ past contributions to the fund.

 

The Federal Reserve Board in February 2006 approved a final rule thatexpands the definition of a small bank holding company under its Small BankHolding Company Policy Statement and the Board’s risk-based and leveragecapital guidelines for bank holding companies. The policy statement facilitatesthe transfer of ownership of small community banks by permitting debt levels atsmall bank holding companies that are higher than what would typically bepermitted for larger small bank holding companies. In its revisions to thePolicy Statement, the Federal Reserve Board raised the small bank holdingcompany asset size threshold from $150 million to $500 million andamended the related qualitative criteria for determining eligibility as a smallbank holding company for the purposes of the policy statement and the capitalguidelines.

 

The FDIC finalized its interim final rule, with changes, that amendedits deposit insurance regulations to implement applicable revisions to theFederal Deposit Insurance Act made by the Federal Deposit Insurance Reform Actof 2005 and the Federal Deposit Insurance Reform Conforming Amendments Act of2005. The final rule provided for consideration of inflation adjustmentsto increase the current standard maximum deposit insurance amount of $100,000on a five-year cycle beginning in 2010; increases the deposit insurance limitfor certain retirement accounts from $100,000 to $250,000, also subject toinflation adjustments; and provides per-participant insurance coverage toemployee benefit plan accounts, even if the depository institution at which thedeposits are placed is not authorized to accept employee benefit plan deposits.The final rule was effective on October 12, 2006.

 

The Board of Governors of the Federal Reserve System amendedRegulation E, which implements the Electronic Fund Transfer Act, and theofficial staff commentary to the regulation, which interprets the requirementsof Regulation E to become effective on July 1, 2006. The final rule providesthat Regulation E covers payroll card accounts that are establisheddirectly or indirectly through an employer, and to which transfers of theconsumer’s salary, wages, or other employee compensation are made on arecurring basis. The final rule also provides financial institutions withan alternative to providing periodic statements for payroll card accounts ifthey make account information available to consumers by specified means.

 

The federal financial regulatory agencies in September 2006 issuedfinal guidance to address the risks posed by nontraditional residentialmortgage products that allow borrowers to defer repayment of principal andsometimes interest, including “interest-only” mortgages and “payment option”adjustable-rate mortgages. These products allow borrowers to exchange lowerpayments during an initial period for higher payments later. The lack ofprincipal amortization and the potential for negative amortization and featuresthat compound risks (such as no document loans and simultaneous secondmortgages) elevate the concern of the federal banking agencies fornontraditional mortgage products. The guidelines require depositoryinstitutions to ensure that loan terms and underwriting standards areconsistent with prudent lending practices, including 

 

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consideration of a borrower’s repayment capacity, to recognize thatmany nontraditional mortgage loans, particularly when they have risk-layeringfeatures, are untested in a stressed environment. The guidelines also expressthe need for depository institutions to have strong risk management standards,capital levels commensurate with the risk, an allowance for loan and leaselosses that reflects the collectibility of the portfolio, and the need to makesure that consumers have sufficient information to clearly understand loanterms and associated risks prior to making a product or payment choice.

 

The federal financial regulatory agencies in December 2006 issueda new interagency policy statement on the allowance for loan and lease losses(ALLL) along with supplemental frequently asked questions. The policystatement revised and replaced a 1993 policy statement on the ALLL. Theagencies issued the revised policy statement in view of today’s uncertaineconomic environment and the presence of concentrations in untested loanproducts in the loan portfolios of insured depository institutions. The policystatement has also been revised to conform to generally accepted accountingprinciples (GAAP) and post-1993 supervisory guidance. The 1993 policystatement described the responsibilities of the boards of directors,management, and banking examiners regarding the ALLL; factors to be consideredin the estimation of the ALLL; and the objectives and elements of an effectiveloan review system, including a sound credit grading system. The policystatement reiterated that each institution has a responsibility for developing,maintaining and documenting a comprehensive, systematic, and consistentlyapplied process appropriate to its size and the nature, scope, and risk of itslending activities for determining the amounts of the ALLL and the provisionfor loan and lease losses and states that each institution should ensurecontrols are in place to consistently determine the ALLL in accordance withGAAP, the institution’s stated policies and procedures, management’s bestjudgment and relevant supervisory guidance.

 

The policy statement also restated that insured depository institutionsmust maintain an ALLL at a level that is appropriate to cover estimated creditlosses on individually evaluated loans determined to be impaired as well asestimated credit losses inherent in the remainder of the loan and leaseportfolio, and that estimates of credit losses should reflect consideration ofall significant factors that affect the collectibility of the portfolio as ofthe evaluation date. The policy statement stated that prudent, conservative,but not excessive, loan loss allowances that represent management’s bestestimate from within an acceptable range of estimated losses are appropriate.

 

The Office of the Comptroller of the Currency, the Board of Governorsof the Federal Reserve System, and the Federal Deposit Insurance Corporation inDecember 2006 issued final guidance on sound risk management practices forconcentrations in commercial real estate lending. The agencies observed thatthe commercial real estate is an area in which some banks are becomingincreasingly concentrated, especially with small- to medium- sized banks thatface strong competition in their other business lines. The agencies supportbanks serving a vital role in their communities by supplying credit forbusiness and real estate development. However, the agencies were concerned thatrising commercial real estate loan concentrations may expose institutions tounanticipated earnings and capital volatility in the event of adverse changesin commercial real estate markets. The guidance provided supervisory criteria,including numerical indicators to assist in identifying institutions withpotentially significant commercial real estate loan concentrations that maywarrant greater supervisory scrutiny, but such criteria are not limits oncommercial real estate lending.

 

**Recent Legislation and Other Changes**

 

Federal and state laws affecting banking are enactedfrom time to time, and similarly federal and state regulations affectingbanking are also adopted from time to time. The following include some of the recent laws and regulations affectingbanking.

 

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**Emergency Economic Stabilization Act of 2008**

 

In response to the financial crises affecting the banking system andfinancial markets and going concern threats to investment banks and otherfinancial institutions, on October 3, 2008, the Emergency EconomicStabilization Act of 2008 (the “EESA”) was signed into law. Pursuant to theEESA, the U.S. Treasury was given the authority to, among other things,purchase up to $700 billion of mortgages, mortgage-backed securities andcertain other financial instruments from financial institutions for the purposeof stabilizing and providing liquidity to the U.S. financial markets.

 

**Troubled Asset Relief Program Capital Purchase Program**

 

OnOctober 14, 2008, the Secretary of the Department of the Treasuryannounced that the Department of the Treasury will purchase equity stakes in awide variety of banks and thrifts. Under the program, known as the TroubledAsset Relief Program Capital Purchase Program (the “TARP Capital PurchaseProgram”), from the $700 billion authorized by the EESA, the Treasury made$250 billion of capital available to U.S. financial institutions in theform of preferred stock. In conjunction with the purchase of preferred stock,the Treasury received, from participating financial institutions, warrants topurchase preferred or common stock, depending on the institution. Participatingfinancial institutions were required to adopt the Treasury’s standards forexecutive compensation and corporate governance for the period during which theTreasury holds equity issued under the TARP Capital Purchase Program. On October 31,2008, the Company announced that it would apply for funds available through theTARP Capital Purchase Program.  However,as of February 28, 2009, while the Company has been in ongoing discussionswith the FDIC, it had not yet received notification from the U.S. Treasury thatits application for the TARP Capital Purchase Program funds had been approvedor denied.  Further, new measures havebeen adopted and further legislative considerations are underway that havematerially changed the Company’s perception of the value of the TARP CapitalPurchase Program and its participation. Our request was based on the conservatorship of the Government SponsoredEnterprises (GSE’s) Fannie Mae (FNMA) and Freddie Mac (FHLMC) and CongressmanBarney Frank’s insertion of a provision in the TARP Capital Purchase Programbill “to give special consideration to banks that had less than $1 billion ofassets, had been well-capitalized as of June 30, served low and moderateincome areas, and had taken a capital hit in the seizure of Fannie Mae andFreddie Mac.”

 

**Temporary Liquidity Guarantee Program**

 

On November 21, 2008, the Board of Directors of the FederalDeposit Insurance Corporation (“FDIC”) adopted a final rule relating tothe Temporary Liquidity Guarantee Program (“TLG Program”). The TLG Programwas announced by the FDIC on October 14, 2008, preceded by thedetermination of systemic risk by the Secretary of the Department of Treasury(after consultation with the President), as an initiative to counter thesystem-wide crisis in the nation’s financial sector. Under the TLG Programthe FDIC will (i) guarantee, through the earlier of maturity or June 30,2012, certain newly issued senior unsecured debt issued by participatinginstitutions on or after October 14, 2008, and before June 30, 2009and (ii) provide full FDIC deposit insurance coverage for non-interestbearing transaction deposit accounts, Negotiable Order of Withdrawal (“NOW”)accounts paying less than 0.5% interest per annum and Interest on Lawyers TrustAccounts (“IOLTA”) accounts held at participating FDIC- insured institutionsthrough December 31, 2009. Coverage under the TLG Program wasavailable for the first 30 days without charge. The fee assessment forcoverage of senior unsecured debt ranges from 50 basis points to100 basis points per annum, depending on the initial maturity of the debt.The fee assessment for deposit insurance coverage is 10 basis points perquarter on amounts in covered accounts exceeding $250,000. On December 4,2008, the Company elected to participate in the second guarantee programmentioned above, that provides full FDIC deposit insurance coverage until December 31,2009 for non-interest bearing transaction deposit accounts, NOW accounts andIOLTA accounts.

 

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**American Recovery and Reinvestment Act**

 

OnFebruary 17, 2009, the American Recovery and Reinvestment Act of 2009 (“ARRA”)was enacted to provide stimulus to the struggling US economy.  ARRA authorizes spending of $787 billion,including about $288 billion for tax relief, $144 billion for state and localrelief aid, and $111 billion for infrastructure and science.  In addition, ARRA includes additionalexecutive compensation restrictions for recipients of funds from the USTreasury under the Troubled Assets Relief Program of the Emergency EconomicStimulus Act of 2008 (“EESA”).  Theprovisions of EESA amended by the ARRA include (i) expanding the coverageof the executive compensation limits to as many as the 25 most highlycompensated employees of a TARP funds recipient and its affiliates for certainaspects of executive compensation limits and (ii) specifically limiting incentivecompensation of covered executives to one-third of their annual compensationwhich is required to be paid in restricted stock that does not vest until allof the TARP funds are no longer outstanding (note that if TARP warrants remainoutstanding and no other TARP instruments are outstanding, then such warrantswould not be considered outstanding for purposes of this incentive compensationrestriction.  In addition, the board of directors of anyTARP recipient is required under EESA, as amended to have a company-wide policyregarding excessive or luxury expenditures, as identified by the Treasury,which may include excessive expenditures on entertainment or events; office andfacility renovations; aviation or other transportation services; or other activitiesor events that are not reasonable expenditures for staff development,reasonable performance incentives, or other similar measures conducted in thenormal course of the business operations of the TARP recipient.

 

EESA,as amended by ARRA, provides for a new incentive compensation restriction forfinancial institutions receiving TARP funds. The number of executives and employees covered by this new incentivecompensation restriction depends on the amount of TARP funds received by suchentity.  For community banks that have orwill receive less than $25 million, the new incentive compensation restrictionapplies only to the highest paid employee. This new incentive compensationrestriction prohibits a TARP recipient from paying or accruing any bonus,retention award, or incentive compensation during the period in which any TARPobligation remains outstanding, except that such prohibition shall not apply tothe payment of long-term restricted stock by such TARP recipient, provided thatsuch long-term restricted stock (i) does not fully vest during the periodin which any TARP obligation remains outstanding, (ii) has a value in anamount that is not greater than 1/3 of the total amount of annual compensationof the employee receiving the stock; and (iii) is subject to such otherterms and conditions as the Secretary of the Treasury may determine is in thepublic interest.  In addition, thisprohibition does not prohibit any bonus payment required to be paid pursuant toa written employment contract executed on or before February 11, 2009, assuch valid employment contracts are determined by the Treasury.

 

EESAwas amended by ARRA to also provide additional corporate governance provisionswith respect to executive compensation including the following:

 

·                  **Establishmentof Standards** - During the period in which any TARP obligationremains outstanding, each TARP recipient shall be subject to the standards inthe regulations issued by the Treasury with respect to executive compensationlimitations for TARP recipients, and the provisions of section 162(m)(5) ofthe Internal Revenue Code of 1986, as applicable (nondeductibility of executivecompensation in excess of $500,000).

 

·                  **ComplianceWith Standards** - The Treasury is required to see that each TARPrecipient meet the required standards for executive compensation and corporategovernance.

 

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·                  **SpecificRequirements for the Required Standards** -

 

·                  Limits on compensation thatexclude incentives for senior executive officers of the TARP recipient to takeunnecessary and excessive risks that threaten the value of the financialinstitution during the period in which any TARP obligation remains outstanding.

 

·                  A clawback requirement bysuch TARP recipient of any bonus, retention award, or incentive compensationpaid to a senior executive officer and any of the next 20 mosthighly-compensated employees of the TARP recipient based on statements ofearnings, revenues, gains, or other criteria that are later found to bematerially inaccurate.

 

·                  A prohibition on such TARPrecipient making any golden parachute payment to a senior executive officer orany of the next 5 most highly-compensated employees of the TARP recipientduring the period in which any TARP obligation remains outstanding.

 

·                  A prohibition on anycompensation plan that would encourage manipulation of the reported earnings ofsuch TARP recipient to enhance the compensation of any of its employees.

 

·                  A requirement for theestablishment of an independent Compensation Committee that meets at leasttwice a year to discuss and evaluate employee compensation plans in light of anassessment of any risk posed to the TARP recipient from such plans.  For a non SEC company that is a TARPrecipient that has received $25,000,000 or less of TARP assistance, the dutiesof the compensation committee may be carried out by the board of directors ofsuch TARP recipient.

 

Inaddition, EESA as amended by ARRA provides that for any TARP recipient, itsannual meeting materials shall include a nonbinding shareholder approvalproposal of executive compensation for shareholders to vote.  The SEC is to establish regulations toimplement this provision.  In addition,shareholders are allowed to present other nonbinding proposals with respect toexecutive compensation.

 

**USTreasury and Financial Regulatory Agency Programs**

 

OnFebruary 10, 2009, the U. S. Treasury, the Federal Reserve Board, the FederalDeposit Insurance Corporation, the Office of the Comptroller of the Currency,and the Office of Thrift Supervision are announced a comprehensive set ofmeasures to restore confidence in the strength of U.S. financial institutionsand restart the critical flow of credit to households and businesses.  This program is intended to restore the flowsof credit necessary to support recovery.

 

Thecore program elements include:

 

·                  A new Capital AssistanceProgram to help ensure that our banking institutions have sufficient capital towithstand the challenges ahead, paired with a supervisory process to produce amore consistent and forward-looking assessment of the risks on banks’ balancesheets and their potential capital needs.

·                  A new Public-PrivateInvestment Fund on an initial scale of up to $500 billion, with the potentialto expand up to $1 trillion, to catalyze the removal of legacy assets from thebalance sheets of financial institutions. This fund will combine public andprivate capital with government financing to help free up capital to supportnew lending.

·                  A new Treasury and FederalReserve initiative to dramatically expand — up to $1 trillion — the existingTerm Asset-Backed Securities Lending Facility (TALF) in order to reduce creditspreads and restart the securitized credit markets that in recent yearssupported a substantial portion of lending to households, students, smallbusinesses, and others.

·                  An extension of the FDIC’sTemporary Liquidity Guarantee Program to October 31, 2009. A new frameworkof governance and oversight to help ensure that banks receiving funds are heldresponsible for appropriate use of those funds through stronger conditions onlending, dividends and executive compensation along with enhanced reporting tothe public.

 

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**Other Pending and Proposed Legislation**

 

Other legislative and regulatory initiatives which could affect theCompany, the Bank, our qualified intermediary companies and the bankingindustry in general are pending, and additional initiatives may be proposed orintroduced before the United States Congress, the Nevada legislature, theCalifornia and Montana legislatures and other governmental bodies in thefuture.  Such proposals, if enacted, mayfurther alter the structure, regulation, and competitive relationship amongfinancial institutions and may subject the Company to increased regulation,disclosure, and reporting requirements. In addition, the various banking regulatory agencies often adopt new rules andregulations to implement and enforce existing legislation.  It cannot be predicted whether, or in whatform, any such legislation or regulations may be enacted or the extent to whichthe business of the Company or the Bank would be affected thereby.

 

**Other Information Concerning the Company**

 

TheCompany holds no material patents, trademarks, licenses, franchises orconcessions.  No expenditures were madeby the Company since inception on material research activities relating to thedevelopment of services or the improvement of existing services.  Based upon present business activities, it isbelieved that compliance with federal, state and local provisions regulatingdischarge of materials into the environment will have no material effects uponthe capital expenditures, earnings or competitive position of the company.

 

We are subject to certain of the informational requirements of theSecurities Exchange Act of 1934, as amended, referred to as the ExchangeAct.  In accordance with the ExchangeAct, we file annual and quarterly reports and other information with theSecurities and Exchange Commission or SEC. Copies may be obtained at the prescribed rates from the public referenceroom maintained by the SEC at 450 Fifth Street, N.W., Washington, D.C.  20549 and be inspected without charge andcopied at the prescribed rates at the SEC’s regional office at NorthwesternAtrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois60661.  The public may also obtain informationon the operation of the public reference room by calling the SEC at1-800-SEC-0330.  An electronic version ofour filings may be viewed at the SEC’s website: www.sec.gov, CIK #1234383.  Additionally, this site also provides accessto any other report or other information we file with the SEC.

 

**ITEM 1A.****                                           ****RISKFACTORS**

 

This Annual Report on Form 10-Kincludes forward-looking statements and information and is subject to the “safeharbor” provisions of Section 27A of the Securities Act of 1933 and Section 21Eof the Securities Exchange Act of 1934. These forward-looking statements, which involve The Bank Holdings’ (the “Company’s”)plans, beliefs and goals, refer to estimates or use similar terms, involvecertain risks and uncertainties that could cause actual results to differmaterially from those in the forward-looking statements.

 

Inaddition, our business exposes us to certain risks.  The factors contained below, among others,could cause our financial condition and results of operations to be materiallyand adversely affected.  If this were tohappen, the value of our common stock could decline, perhaps significantly.

 

**RisksRelated to the Company’s Business**

 

**Strokeof the Pen Risk. **Financial riskmanagement tends to be based on credit, market, operational, regulatory andreputational risk.  Additionally,however, there are changes in policy, regulation and accounting that addressissues outside the financial services industry that result in systemic risks tobanking organizations.  Such changesrecently arose in the political process which made them difficult to anticipateand which carried profound and negative consequences for our Company andBank.  Such consequences, we believe,were not adequately evaluated primarily in terms of their effects on theinsured financial institutions usually referred to as “community banks”.

 

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Recentchanges in monetary policy, tax policy, and accounting standards have posedsuch a risk, however, the early September “conservatorship” of FNMA(Fannie Mae) and FHLMC (Freddie Mac) brought about “unintended consequences”that severely depleted the capital of the Company.  Although the September 7, 2008 jointrelease by the FRB, FDIC, OCC and OTS opined that “a limited number of smallinstitutions have holdings that are significant compared to their capital”, andthat these agencies “are prepared to work with these institutions to developcapital restoration plans”, there has been a noticeable lack of regulatorysupport.

 

Suchrisk as has been imposed by this U.S. Treasury Department action has magnifiedany previous risks borne by the Bank and Company primarily due to credit ormarket risks.  It has depleted capital,reduced the financial strength and flexibility of the Company, and poses graveconcerns to our shareholders and customers. Although the Bank and the Company remain “well capitalized” undercurrent regulatory standards, no absolute assurance can be given that this, infact, will continue.

 

**The Company’s Business May Be More Adversely Affected byConditions in the Financial Markets and Economic Conditions Generally.**** **Since December 2007, the United States has been in arecession. Business activity across a wide range of industries and regions isgreatly reduced and local governments and many businesses are in seriousdifficulty due to the lack of consumer spending and the lack of liquidity inthe credit markets. Unemployment has increased significantly.

 

Since mid-2007 and particularly during the second halfof 2008, the financial services industry and the securities markets generallywere materially and adversely affected by significant declines in the values ofnearly all asset classes and by a serious lack of liquidity. This was initiallytriggered by declines in home prices and the values of sub-prime mortgages, butspread to all mortgage and real estate asset classes, to leveraged bank loansand to nearly all asset classes, including equities. The global markets havebeen characterized by substantially increased volatility and short-selling andan overall loss of investor confidence initially in financial institutions, butmore recently in companies in a number of other industries and in the broadermarkets.

 

Market conditions have also led to the failure ormerger of a number of prominent financial institutions. Financial institutionfailures or near-failures have resulted in further losses as a consequence ofdefaults on securities issued by them and defaults under contracts entered intowith such entities as counterparties. Furthermore, declining asset values,defaults on mortgages and consumer loans, and the lack of market and investorconfidence, as well as other factors, have all combined to increase creditdefault swap spreads, to cause rating agencies to lower credit ratings, and tootherwise increase the cost and decrease the availability of liquidity, despitevery significant declines in Federal Reserve borrowing rates and othergovernment actions. Some banks and other lenders have suffered significantlosses and have become reluctant to lend, even on a secured basis, due to theincreased risk of default and the impact of declining asset values on the valueof collateral. The foregoing has significantly weakened the strength andliquidity of financial institutions worldwide. In 2008, the U.S. government,the Federal Reserve and other regulators took numerous steps to increaseliquidity and to restore investor confidence, including investing approximately$200 billion in the equity of other banking organizations, but assetvalues have continued to decline and access to liquidity continues to be verylimited.

 

The Company’s financial performance generally and inparticular, the ability of borrowers to pay interest on and repay principal ofoutstanding loans and the value of collateral securing those loans, is highlydependent upon the business environment in the markets where we operate and inthe United States as a whole. A favorable business environment is generallycharacterized by, among other factors, economic growth, efficient capitalmarkets, low inflation, continued business and investor confidence, and strongbusiness earnings. Unfavorable or uncertain economic and market conditions canbe caused by: declines in economic growth, business activity or reduced levelsof  investor or business confidence;limitations on the availability or increases in the cost of credit and capital;increases in inflation or interest rates; natural disasters; or a combinationof these or other factors.

 

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Overall during 2008, the business environment has beenadverse for many households and businesses in northern Nevada, northernCalifornia, the United States and worldwide. It is expected that the difficult business environment in northernNevada, northern California, the United States and worldwide may continue todeteriorate for the foreseeable future. There can be no assurance that theseconditions will improve in the near term. Such conditions could adverselyaffect the credit quality of the Company’s loans, results of operations andfinancial condition.

 

**The Company Is Subject To Interest Rate Risk. **The Company’searnings and cash flows are largely dependent upon its net interest income. Netinterest income is the difference between interest income earned oninterest-earning assets such as loans and securities and interest expense paidon interest-bearing liabilities such as deposits and borrowed funds. Interestrates are highly sensitive to many factors that are beyond the Company’scontrol, including general economic conditions and policies of variousgovernmental and regulatory agencies and, in particular, the Board of Governorsof the Federal Reserve System. Changes in monetary policy, including changes ininterest rates, could influence not only the interest the Company receives onloans and securities and the amount of interest it pays on deposits andborrowings, but such changes could also affect (i) the Company’s abilityto originate loans and obtain deposits, (ii) the fair value of the Company’sfinancial assets and liabilities, and (iii) the average duration of theCompany’s mortgage-backed securities portfolio. If the interest rates paid ondeposits and other borrowings increase at a faster rate than the interest ratesreceived on loans and other investments, the Company’s net interest income, andtherefore earnings, could be adversely affected. Earnings could also beadversely affected if the interest rates received on loans and otherinvestments fall more quickly than the interest rates paid on deposits andother borrowings.

 

Although management believes it has implementedeffective asset and liability management strategies to reduce the potentialeffects of changes in interest rates on the Company’s results of operations,any substantial, unexpected, prolonged change in market interest rates couldhave a material adverse effect on the Company’s financial condition and resultsof operations.

 

**The Company Is Subject To Continuing Lending Risk. **There areinherent risks associated with the Company’s lending activities. These risksinclude, among other things, the impact of changes in interest rates andchanges in the economic conditions in the markets where the Company operates aswell as those across United States. Increases in interest rates and/orcontinuing weakening economic conditions could adversely impact the ability ofborrowers to repay outstanding loans or the value of the collateral securingthese loans. The Company is also subject to various laws and regulations thataffect its lending activities. Failure to comply with applicable laws andregulations could subject the Company to regulatory enforcement action thatcould result in the assessment of significant civil money penalties against theCompany.

 

As of December 31, 2008, most of the Company’sloan portfolio consisted of commercial and industrial, construction andcommercial real estate mortgage loans. These types of loans are generallyviewed as having more risk of default than residential real estate loans orconsumer loans. These types of loans are also typically larger than residentialreal estate loans and consumer loans. Because the Company’s loan portfoliocontains a significant number of commercial and industrial, construction andcommercial real estate loans with relatively large balances, the deteriorationof one or a few of these loans could cause a significant increase innon-performing loans. An increase in non-performing loans could result in a netloss of earnings from these loans, an increase in the provision for possibleloan losses and an increase in loan charge-offs, all of which could have amaterial adverse effect on the Company’s financial condition and results ofoperations. See the section captioned “Loan Portfolio” in Item 7,Management’s Discussion and Analysis of Financial Condition and Results ofOperations located elsewhere in this report for further discussion related tothe loan portfolio.

 

**We Have AHigh Concentration Of Loans Secured By Real Estate And A Continued Long TermDownturn In****The Real EstateMarket, For Any Reason, Could Further Hurt Our Business And Prospects. **Our real estate-secured loans areconcentrated in the northern Nevada and greater Sacramento, Californiaareas.  A downturn in those localeconomies has had a material adverse effect on some of our borrowers’ abilityto repay these loans due to either loss of borrower’s employment or a reductionin borrower’s business.  Further, suchreduction in those local economies has severely impaired the value of the realproperty held as collateral.  As aresult, the value of real estate collateral securing our loans has beenreduced.  Our ability to recover ondefaulted loans by foreclosing and selling the real estate collateral wouldthen be diminished and it would be more likely to suffer losses on defaultedloans.

 

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****IfA Significant Number Of Borrowers, Guarantors And Related Parties Fail ToPerform As Required By The Terms Of Their Loans, We Will Sustain Losses.****  A significant source of risk arises from thepossibility that losses will be sustained because borrowers, guarantors andrelated parties may fail to perform in accordance with the terms of their loansand guarantees.  We have adoptedunderwriting and credit monitoring procedures and credit policies, includingthe establishment and review of the allowance for credit losses, that managementbelieve are appropriate to minimize this risk by assessing the likelihood ofnonperformance, tracking loan performance, and diversifying our creditportfolio.  These policies andprocedures, however, may not prevent unexpected losses that could have amaterial adverse effect on our results of operations.

 

**The Company’s Allowance For Loan Losses May Be Insufficient. **The Companymaintains an allowance for loan losses, which is a reserve established througha provision for possible loan losses charged to expense, that representsmanagement’s best estimate of probable losses that have been incurred withinthe existing portfolio of loans. The allowance, in the judgment of management,is necessary to reserve for estimated loan losses and risks inherent in theloan portfolio. The level of the allowance reflects management’s continuingevaluation of industry concentrations; specific credit risks; loan lossexperience; current loan portfolio quality; present economic, political andregulatory conditions and unidentified losses inherent in the current loanportfolio. The determination of the appropriate level of the allowance forpossible loan losses inherently involves a high degree of subjectivity andrequires the Company to make significant estimates of current credit risks andfuture trends, all of which may undergo material changes. Continuingdeterioration in economic conditions affecting borrowers, new informationregarding existing loans, identification of additional problem loans and otherfactors, both within and outside of the Company’s control, may require anincrease in the allowance for possible loan losses. In addition, bankregulatory agencies periodically review the Company’s allowance for loan lossesand may require an increase in the provision for possible loan losses or therecognition of further loan charge-offs, based on judgments different thanthose of management. In addition, if charge-offs in future periods exceed theallowance for loan losses, the Company will need additional provisions toincrease the allowance for possible loan losses. Any increases in the allowancefor possible loan losses will result in a decrease in net income and, possibly,capital, and may have a material adverse effect on the Company’s financialcondition and results of operations. See the section captioned “Allowance forLoan Losses” in Item 7, Management’s Discussion and Analysis of FinancialCondition and Results of Operations located elsewhere in this report forfurther discussion related to the Company’s process for determining theappropriate level of the allowance for loan losses.

 

**The Company Is Subject To Environmental Liability Risk Associated WithLending Activities. **A significant portion of the Company’s loan portfolio issecured by real property. During the ordinary course of business, the Companymay foreclose on and take title to properties securing certain loans. In doingso, there is a risk that hazardous or toxic substances could be found on theseproperties. If hazardous or toxic substances are found, the Company may beliable for remediation costs, as well as for personal injury and propertydamage. Environmental laws may require the Company to incur substantialexpenses and may materially reduce the affected property’s value or limit theCompany’s ability to use or sell the affected property. In addition, futurelaws or more stringent interpretations or enforcement policies with respect toexisting laws may increase the Company’s exposure to environmental liability.Although the Company has policies and procedures to perform an environmentalreview before initiating any foreclosure action on real property, these reviewsmay not be sufficient to detect all potential environmental hazards. Theremediation costs and any other financial liabilities associated with anenvironmental hazard could have a material adverse effect on the Company’sfinancial condition and results of operations.

 

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**The Company’s Profitability Depends Significantly On EconomicConditions In Northern Nevada And Northern California. **The Company’ssuccess depends primarily on the general economic conditions of northernNevada, northern California and the specific local markets in which the Companyoperates. Unlike larger national or other regional banks that are moregeographically diversified, the Company provides banking and financial servicesto customers across the northern Nevada and northern California regions. Thelocal economic conditions in these areas have a significant impact on thedemand for the Company’s products and services as well as the ability of theCompany’s customers to repay loans, the value of the collateral securing loansand the stability of the Company’s deposit funding sources. Economic conditionsin northern Nevada and northern California are declining and are expected tocontinue to decline. A significant decline in general economic conditions,whether caused by recession, inflation, unemployment, changes in securitiesmarkets, acts of terrorism, outbreak of hostilities or other international ordomestic occurrences or other factors could impact these local economicconditions and, in turn, have a material adverse effect on the Company’sfinancial condition and results of operations.

 

**The Company May Be Adversely Affected By The Soundness Of OtherFinancial Institutions. **Financial services institutions are interrelated as a resultof trading, clearing, counterparty, or other relationships. The Company hasexposure to many different industries and counterparties, and routinelyexecutes transactions with counterparties in the financial services industry, includingcommercial banks, brokers and dealers, investment banks, and otherinstitutional clients. Many of these transactions expose the Company to creditrisk in the event of a default by a counterparty or client. In addition, theCompany’s credit risk may be exacerbated when the collateral held by theCompany cannot be realized or is liquidated at prices not sufficient to recoverthe full amount of the credit due to the Company. Any such losses could have amaterial adverse affect on the Company’s financial condition and results ofoperations.

 

**The Company Operates In A Highly Competitive Industry and MarketArea. **TheCompany faces substantial competition in all areas of its operations from avariety of different competitors, many of which are larger and may have morefinancial resources. Such competitors primarily include “mega-banks” “too bigto fail” banks, investment banks, national, regional, and community bankswithin the various markets where the Company operates. The Company also facescompetition from many other types of financial institutions, including, withoutlimitation, savings and loans, credit unions, finance companies, brokeragefirms, insurance companies, factoring companies and other financialintermediaries. The financial services industry could become even morecompetitive as a result of legislative, regulatory and technological changesand continued consolidation. Banks, securities firms and insurance companiescan merge under the umbrella of a financial holding company, which can offervirtually any type of financial service, including banking, securitiesunderwriting, insurance (both agency and underwriting) and merchant banking.Also, technology has lowered barriers to entry and made it possible fornon-banks to offer products and services traditionally provided by banks, suchas automatic transfer and automatic payment systems. Many of the Company’scompetitors have fewer regulatory constraints and may have lower coststructures. Additionally, due to their size, many competitors may be able toachieve economies of scale and, as a result, may offer a broader range ofproducts and services as well as better pricing for those products and servicesthan the Company can.

 

The Company’s ability to compete successfully dependson a number of factors, including, among other things:

 

·                  Theability to develop, maintain and build long-term customer relationships basedon top quality service, high ethical standards and safe, sound assets. 

·                  Theability to expand the Company’s market position. 

·                  Thescope, relevance and pricing of products and services offered to meet customerneeds and demands, within the scope of company profitability. 

·                  Therate at which the Company introduces new products and services relative to itscompetitors. 

·                  Customersatisfaction with the Company’s level of service. 

·                  Industryand general economic trends. 

 

Failure to perform in any of these areas couldsignificantly weaken the Company’s competitive position, which could adverselyaffect the Company’s growth and profitability, which, in turn, could have amaterial adverse effect on the Company’s financial condition and results ofoperations.

 

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**The Company Is Subject To Extensive Government Regulation andSupervision. **The Company is subject to extensive federal and stateregulation and supervision. Banking regulations are primarily intended toprotect depositors’ funds, federal deposit insurance funds and the bankingsystem as a whole, not security holders. These regulations affect the Company’slending practices, capital structure, investment practices, and dividend policyand growth, among other things. Congress and federal regulatory agenciescontinually review banking laws, regulations and policies for possible changes.It is likely that there will be significant changes to the banking andfinancial institutions regulatory regimes in the near future in light of therecent performance of and government intervention in the financial servicessector. Changes to statutes, regulations or regulatory policies, includingchanges in interpretation or implementation of statutes, regulations orpolicies, could affect the Company in substantial and unpredictable ways. Suchchanges could subject the Company to additional costs, limit the types offinancial services and products the Company may offer and/or increase theability of non-banks to offer competing financial services and products, amongother things. Failure to comply with laws, regulations or policies could resultin sanctions by regulatory agencies, civil money penalties and/or reputationdamage, which could have a material adverse effect on the Company’s business,financial condition and results of operations. While the Company has policiesand procedures designed to prevent any such violations, there can be noassurance that such violations will not occur. See the section captioned “Regulationand Supervision” in Item 1. Business and NOTE 16 - Regulatory CapitalRequirements in the notes to consolidated financial statements included inItem 8, Financial Statements and Supplementary Data, which is locatedelsewhere in this report.

 

**The Company’s Controls and Procedures May Fail or BeCircumvented. **Management regularly reviews and updates the Company’sinternal controls, disclosure controls and procedures, and corporate governancepolicies and procedures. Any system of controls, however well designed andoperated, is based in part on certain assumptions and can provide onlyreasonable, not absolute, assurances that the objectives of the system are met.Any failure or circumvention of the Company’s controls and procedures orfailure to comply with regulations related to controls and procedures couldhave a material adverse effect on the Company’s business, results of operationsand financial condition.

 

**New Lines of Business or New Products and Services May Subject TheCompany to Additional Risks. **From time to time, the Company may implement new lines ofbusiness or offer new products and services within existing lines of business.There are substantial risks and uncertainties associated with these efforts,particularly in instances where the markets are not fully developed. In developingand marketing new lines of business and/or new products and services theCompany may invest significant time and resources. Initial timetables for theintroduction and development of new lines of business and/or new products orservices may not be achieved and price and profitability targets may not provefeasible. External factors, such as compliance with regulations, competitivealternatives, and shifting market preferences, may also impact the successfulimplementation of a new line of business or a new product or service.Furthermore, any new line of business and/ or new product or service could havea significant impact on the effectiveness of the Company’s system of internalcontrols. Failure to successfully manage these risks in the development andimplementation of new lines of business or new products or services could havea material adverse effect on the Company’s business, results of operations andfinancial condition.

 

**The Bank Holdings May Require Dividends From Nevada SecurityBank. **TheBank Holdings is a separate and distinct legal entity from its subsidiaries. Itmay require dividends in the future from Nevada Security Bank to pay theinterest and principal on The Bank Holdings’ Trust Preferred Securities inaddition to other expenses. Various federal and/or state laws and regulationslimit the amount of dividends that Nevada Security Bank may pay to The BankHoldings. Also, The Bank Holdings’ right to participate in a distribution ofassets upon a subsidiary’s liquidation or reorganization is subject to theprior claims of the subsidiary’s creditors. In the event Nevada Security Bankis unable to pay dividends to The Bank Holdings, The Bank Holdings may not beable to service its debt or pay its obligations.  The inability to receive dividends fromNevada Security Bank could have a material adverse effect on the Company’sbusiness, financial condition and results of operations. See the sectioncaptioned “Regulation and Supervision” in Item 1. Business and NOTE 16-Regulatory Capital Requirements in the notes to consolidated financialstatements included in Item 8, Financial Statements and SupplementaryData, which are located elsewhere in this report.

 

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**Potential Acquisitions May Disrupt the Company’s Business andDilute Stockholder Value. **The Company may seek merger or acquisition partners that areculturally similar and have experienced management and possess eithersignificant market presence or have potential for improved profitabilitythrough financial management, economies of scale or expanded services.Acquiring other banks, businesses, or branches involves various risks commonlyassociated with acquisitions, including, among other things:

 

·                  Potentialexposure to unknown or contingent liabilities of the target company. 

·                  Exposureto potential asset quality issues of the target company. 

·                  Difficultyand expense of integrating the operations and personnel of the target company. 

·                  Potentialdisruption to the Company’s business. 

·                  Potentialdiversion of the Company’s management’s time and attention. 

·                  Thepossible loss of key employees and customers of the target company. 

·                  Difficultyin estimating the value of the target company. 

·                  Potentialchanges in banking or tax laws or regulations that may affect the targetcompany. 

 

The Company occasionally evaluates merger andacquisition opportunities and conducts due diligence activities related topossible transactions with other financial institutions and financial servicescompanies. As a result, merger or acquisition discussions and, in some cases,negotiations may take place and future mergers or acquisitions involving cash,debt or equity securities may occur at any time. Acquisitions typically involvethe payment of a premium over book and market values, and, therefore, somedilution of the Company’s tangible book value and net income per common sharemay occur in connection with any future transaction. Furthermore, failure torealize the expected revenue increases, cost savings, increases in geographicor product presence, and/or other projected benefits from an acquisition couldhave a material adverse effect on the Company’s financial condition and resultsof operations.  During 2006, the Companyacquired NNB Holdings, Inc., Rocky Mountain Exchange and 75% of GraniteExchange, Inc.  During 2007, and2008, the Company acquired the remaining 25% of Granite Exchange, Inc.

 

**The Company May Not Be Able To Attract and Retain SkilledPeople. **TheCompany’s success depends, in large part, on its ability to attract and retainkey people. Competition for the best people in most activities engaged in bythe Company can be intense and the Company may not be able to hire people or toretain them. The unexpected loss of services of key personnel of the Companycould have a material adverse impact on the Company’s business because of theirskills, knowledge of the Company’s market, years of industry experience and thedifficulty of promptly finding qualified replacement personnel.

 

**The Company’s Information Systems May Experience An InterruptionOr Breach In Security. **The Company relies heavily on communications and informationsystems to conduct its business. Any failure, interruption or breach insecurity of these systems could result in failures or disruptions in theCompany’s customer relationship management, general ledger, deposit, loan andother systems. While the Company has policies and procedures designed toprevent or limit the effect of the failure, interruption or security breach ofits information systems, there can be no assurance that any such failures,interruptions or security breaches will not occur or, if they do occur, thatthey will be adequately addressed. The occurrence of any failures,interruptions or security breaches of the Company’s information systems coulddamage the Company’s reputation, result in a loss of customer business, subjectthe Company to additional regulatory scrutiny, or expose the Company to civillitigation and possible financial liability, any of which could have a materialadverse effect on the Company’s financial condition and results of operations.

 

**The Company Continually Encounters Technological Change. **Thefinancial services industry is continually undergoing rapid technologicalchange with frequent introductions of new technology-driven products andservices, some of which are provided by outside vendors on whom the Companyextensively relies. The effective use of technology increases efficiency andenables financial institutions to better serve customers and to reduce costs.The Company’s future success depends, in part, upon its ability to address theneeds of its customers by using technology to provide products and servicesthat will satisfy customer demands, as well as to create additionalefficiencies in the Company’s operations. Many of the Company’s competitorshave substantially greater resources to invest in technological improvements.The Company may not be able to effectively implement new technology-drivenproducts and services or be successful in marketing these products and servicesto its customers. Failure to successfully keep pace with technological changeaffecting the financial services industry could have a material adverse impacton the Company’s business and, in turn, the Company’s financial condition andresults of operations.

 

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**The Company May Be Subjected To Claims and Litigation PertainingTo Fiduciary Responsibility. **From time to time, customers may make claims and take legalaction pertaining to the Company’s performance of its fiduciary responsibilities.Whether customer claims and legal action related to the Company’s performanceof its fiduciary responsibilities are founded or unfounded, if such claims andlegal actions are not resolved in a manner favorable to the Company they mayresult in significant financial liability and/or adversely affect the marketperception of the Company and its products and services as well as impactcustomer demand for those products and services. Any financial liability orreputation damage could have a material adverse effect on the Company’sbusiness, which, in turn, could have a material adverse effect on the Company’sfinancial condition and results of operations.

 

**Severe Weather, Natural Disasters, Acts Of War Or Terrorism and OtherExternal Events Could Significantly Impact The Company’s Business. **Severeweather, natural disasters, acts of war or terrorism and other adverse externalevents could have a significant impact on the Company’s ability to conductbusiness. Such events could affect the stability of the Company’s deposit base,impair the ability of borrowers to repay outstanding loans, impair the value ofcollateral securing loans, cause significant property damage, result in loss ofrevenue and/or cause the Company to incur additional expenses. Althoughmanagement has established disaster recovery policies and procedures, theoccurrence of any such event in the future could have a material adverse effecton the Company’s business, which, in turn, could have a material adverse effecton the Company’s financial condition and results of operations.

 

**Risks AssociatedWith The Company’s Common Stock**

 

**The Company’s Stock Price Can Be Volatile. **Stock pricevolatility may make it more difficult for you to resell your common stock whenyou want and at prices you find attractive. The Company’s stock price canfluctuate significantly in response to a variety of factors including, amongother things:

 

·                  Actual or anticipated variations in quarterly results of operations. 

·                  Recommendations by securities analysts. 

·                  Operating and stock price performance of other companies that investorsdeem comparable to the Company. 

·                  News reports relating to trends, concerns and other issues in thefinancial services industry. 

·                  Perceptions in the marketplace regarding the Company and/or itscompetitors. 

·                  New technology used, or services offered, by competitors. 

·                  Significant acquisitions or business combinations, strategicpartnerships, joint ventures or capital commitments by or involving the Companyor its competitors. 

·                  Failure to integrate acquisitions or realize anticipated benefits fromacquisitions. 

·                  Changes in government regulations. 

·                  Geopolitical conditions such as acts or threats of terrorism ormilitary conflicts. 

 

General market fluctuations, industry factors andgeneral economic and political conditions and events, such as economicslowdowns or recessions, interest rate changes or credit loss trends, couldalso cause the Company’s stock price to decrease regardless of operatingresults.

 

**The Trading Volume In The Company’s Common Stock Is Less Than That OfOther Larger Financial Services Companies. **Although the Company’s common stockis listed for trading on the NASDAQ Capital Market, the trading volume in itscommon stock is less than that of other, larger financial services companies. Apublic trading market having the desired characteristics of depth, liquidityand orderliness depends on the presence in the marketplace of willing buyersand sellers of the Company’s common stock at any given time. This presencedepends on the individual decisions of investors and general economic andmarket conditions over which the Company has no control. Given the lowertrading volume of the Company’s common stock, significant sales of the Company’scommon stock, or the expectation of these sales, could cause the Company’sstock price to fall.

 

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** **

**The Company’sContinued NASDAQ Listing Is Subject To Certain Requirements, Including MinimumBid Price. **The closing bid price of Company common stock has recentlybeen less than $1.00.  Our stock islisted on NASDAQ which has listing rules requiring a minimum $1.00 closingbid price and a minimum value of publicly held shares.  Although such listing rules have beensuspended until July 20, 2009 for issuers of common stock, after this date thestandard listing criteria are likely to be re-imposed whereby a security isconsidered deficient if it fails to achieve at least a $1.00 closing bid pricefor a period of 30 consecutive business days. Once deficient, Capital Markets issuers are provided one automatic 180day period to regain compliance. Thereafter, these issuers could receive an additional 180 day complianceperiod if they comply with all Capital Market initial inclusion requirementsexcept bid price.  Although financialindustry stocks are currently out of favor, the Company believes it currentlymeets all Capital Market initial inclusion requirements except bid price.

 

**An Investment In The Company’s Common Stock Is Not An InsuredDeposit. **TheCompany’s common stock is not a bank deposit and, therefore, is not insuredagainst loss by the Federal Deposit Insurance Company (FDIC), any other depositinsurance fund or by any other public or private entity. Investment in theCompany’s common stock is inherently risky for the reasons described in this “RiskFactors” section and elsewhere in this report and is subject to the same marketforces that affect the price of common stock in any company. As a result, ifyou acquire the Company’s common stock, you could lose some or all of yourinvestment.

 

**The Company’s Articles Of Incorporation and By-Laws As Well As CertainBanking Laws May Have An Anti-Takeover Effect. **Provisionsof the Company’s articles of incorporation and by-laws and federal bankinglaws, including regulatory approval requirements, could make it more difficultfor a third party to acquire the Company, even if doing so would be perceivedto be beneficial to the Company’s shareholders. The combination of theseprovisions effectively inhibits a non-negotiated merger or other businesscombination, which, in turn, could adversely affect the market price of theCompany’s common stock.

 

**Risks AssociatedWith The Company’s Industry**

 

**The Earnings Of Financial Services Companies Are Significantly AffectedBy General Business And Economic Conditions. **The Company’s operations andprofitability are impacted by general business and economic conditions in theUnited States and abroad. These conditions include short-term and long-terminterest rates, inflation, money supply, political issues, legislative andregulatory changes, fluctuations in both debt and equity capital markets, broadtrends in industry and finance, and the strength of the U.S. economy and thelocal economies in which the Company operates, all of which are beyond theCompany’s control. The continuing deterioration in economic conditions in theUnited States and abroad could result in a further increase in loandelinquencies and non-performing assets, decreases in loan collateral valuesand a decrease in demand for the Company’s products and services, among otherthings, any of which could have a material adverse impact on the Company’sfinancial condition and results of operations.

 

**Financial Services Companies Depend On The Accuracy And Completeness OfInformation About Customers And Counterparties. **In deciding whether to extendcredit or enter into other transactions, the Company may rely on informationfurnished by or on behalf of customers and counterparties, including financialstatements, credit reports and other financial information. The Company mayalso rely on representations of those customers, counterparties or other thirdparties, such as independent auditors, as to the accuracy and completeness ofthat information. Reliance on inaccurate or misleading financial statements,credit reports or other financial information could have a material adverseimpact on the Company’s business and, in turn, the Company’s financialcondition and results of operations.

 

**Consumers May Decide Not To Use Banks To Complete Their FinancialTransactions. **Technology and other changes are allowing parties to completefinancial transactions that while historically have involved banks, are nowavailable through alternative methods. For example, consumers can now maintainfunds that would have historically been held as bank deposits in brokerageaccounts or mutual funds. Consumers can also complete transactions such aspaying bills and/or transferring funds directly without the assistance ofbanks. The process of eliminating banks as intermediaries, known as “disintermediation,”could result in the loss of fee income, as well as the loss of customerdeposits and the related income generated from those deposits. The loss ofthese revenue streams and lower cost deposits as a source of funds could have amaterial adverse effect on the Company’s financial condition and results ofoperations.

 

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**ITEM1B.  UNRESOLVED STAFF COMMENTS**

 

There are no commentsreceived from Securities and Exchange Commission staff regarding our periodicor current reports that are unresolved.

 

**ITEM 2.     PROPERTIES**

 

TheCompany currently operates from nine locations, the principal location being9990 Double R Boulevard, Reno, Nevada, 89521 where the administrative functionsand regular branch activities of the Bank occur.  The Bank Holdings is also located at thisaddress.  Company facilities are ofvarious ages and correspondingly require different levels of maintenance.  All are suitable and adequate for theirintended use.

 

NevadaSecurity Bank leases the first floor of this free-standing facility under anagreement dated October 2, 2001, which notes the use of approximately9,300 square feet for a ten-year term beginning at the issuance of acertificate of occupancy.  Nevada SecurityBank took possession on December 6, 2002 and may extend the lease forfour, five-year periods if not in default under the terms of the agreement ateach renewal period.  The lease paymentunder this agreement is approximately $19,254 per month with annual escalationsfor each of the first four years; beginning in year five there is a fixedannual escalation of 2.5%.

 

NevadaSecurity Bank also leases part of the second floor of this free-standingfacility under an agreement dated May 1, 2005, which notes the use ofapproximately 1,686 square feet for a seven-year six month term the expirationof which is coterminous with the lease on the first floor.  Nevada Security Bank took possession on May 1,2005 and the lease terms are the same as the lease for the first floor.  The lease payment under this agreement isapproximately $3,491 per month with annual escalations for each of the firstfour years; beginning in year five there is a fixed annual escalation of 2.5%.

 

TheBank Holdings leases part of the second floor of the same facility under anagreement dated November 17, 2003, which notes the use of approximately4,028 square feet for an eight-year eight-month term which is also coterminouswith the Bank’s leases.  The BankHoldings took possession on April 9, 2004 and may extend the lease forfour, five-year periods if not in default under the terms of the agreement ateach renewal period.  The lease paymentunder this agreement is approximately $8,415 per month with annual escalationsfor each of the first three years; beginning in year four there is a fixedannual escalation of 2.5%.

 

NevadaSecurity Bank’s Incline Village branch office operates in approximately 4,200square feet in an office at the northeast end of the Raley’s Shopping Centerlocated 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 contained two renewal periods of five years each if the Bank is notin default under the terms of the lease at each renewal period.  The Bank and the lessors of the property haveagreed to both extensions of the lease, under the renewal terms as werepreviously documented. The lease payment under this agreement is approximately$7,945 per month with annual consumer price index (CPI) adjustments.

 

NevadaSecurity Bank’s MaeAnne office in Northwest Reno operates in approximately3,500 square feet in a newly constructed free-standing building in the McQueen’sCrossings shopping center development. Nevada Security Bank occupies this facility under a lease agreementdated October 7, 2003 within a land area of about 46,000 square feet.  The location consists of a building, threedrive-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 two ten-year extensions available if thetenant is not in default under the terms of the lease.  The lease payment under this agreement isapproximately $11,250 per month for the first five years, with escalationsthereafter.

 

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TheBank’s Moana office, the former head office location of Northern Nevada Bank,was acquired on November 6, 2006. This property is owned by the Bank and includes a 10,784 square foot twostory building on a site area of .99 acres at 3490 S. Virginia Street, Reno, NV89505.  This property was originally one-storyof 5,064 square feet, but was improved during 2004 to add a 5,720 square foottwo-story addition.  The property wasappraised in December 2006 at $2.6 million and is used as a retail bankingfacility.

 

Thesecond branch acquired during November 2006 is the Carson office, locatedat 3120 Highway 50 East #1, Carson City, NV 89706.  This facility is 2,552square feet operating under a five-year triple net lease which was signed on June 14,2004 and commenced on May 1, 2005. The lease has two five-year extension provisions, and common areaoperating costs are based on a 16% factor. The rent was established at $4,721.20 per month with a $0.10 per squarefoot increase on the 25th month of the term, and another such increaseon the 49th month of the term.

 

Thethird location acquired is the Information Technology and Operations Centerlocated at 5450 Riggins Court, Suite 5, Reno, NV  89515. The facility is 5,138 rentable square feet with approximately 3,500square feet used for operations and 1,600 square feet used as warehousestorage.  The lease is dated August 11,2000 and extends for ten years with a base rate of $0.65 per square foot.  The property has an annual CPI adjustmentcommencing September 1 of each year, based on the San Francisco — OaklandCalifornia regional area index as published by the BLS.  There are two five-year options to renewwithin the body of the agreement, which is a triple net lease with a CAM chargebase of 16.6%.

 

Additionallyin the acquisition, the Bank became the owner of a 2.41 acre vacant lot locatedin Sparks, NV.  This parcel is locatedadjacent east of Queens Way Lane with approximately 534 feet of frontage onPyramid Highway, north of McCarran Blvd. The property is zoned PO (professional office) and is considered to bean infill site, as most of the surrounding land has been developed.  During December 2006 the property wasappraised for $1.6 million.

 

TheSpanish Springs branch office in Sparks, Nevada opened late in the firstquarter of 2006, in a temporary location. This temporary lease site was for one year, was dated February 1,2006 for 1,471 rentable square feet with six months at $2,353.60 per month baserent and months 7 - 18 on a month-to-month basis at the same rate.  When the Bank exceeded the original month-to-monthterm, the lease payments increased to approximately $3,530.42 per month.  Management decided to close this temporaryfacility on March 31, 2008 and elected not to proceed with construction ofthe permanent branch that had been delayed over the prior three years.

 

NevadaSecurity Bank opened a branch office at 2270 Douglas Blvd., Suite 220Roseville, California under the name Silverado Bank, a division of NevadaSecurity Bank.  The Roseville facility isnewly renovated and operates under a lease dated October 6, 2004 withpremises of approximately 5,968 square feet. The term of the lease is five years, commencing with occupancy in March 2005,with one five-year extension available if the tenant is not in default underthe terms of the lease.  The leasepayment under this agreement is approximately $12,533 per month for the firstyear, with escalations thereafter.

 

Asecond branch of Silverado Bank was opened at 2865 Sunrise Blvd, Suite 100,Rancho Cordova, CA.  The property has7,695 rentable square feet in a two story building under a five-year term whichlease is dated May 5, 2006, however, which commenced in June, 2007, due topermitting and remodeling delays.  Thebase rent is established at $1.40 per square foot with an annual $0.05 per footescalation and a tenant pro rata CAM base of 16.66%.  The agreement has two five-year optionperiods, subject to the tenant not being in default under any lease provisions.

 

Duringlate 2008, the Bank foreclosed on a business park pad site of 1.13 acres at thesouthwest corner of Lennane and National Drives in Sacramento, California.  The property is in a location, newlydetermined by the Army Corp of Engineers to be subject to regulation that willrequire new buildings to be up to 20 feet above ground level in much ofNatomas.  As we have building permitsthat predate their regulations, this site is anticipated to be used for a newbranch office for the Bank.  The propertywas appraised at $820,000 during November 2008.

 

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NevadaSecurity Bank’s total occupancy expense for the years ended December 31,2008 and 2007 was approximately $2.3 million and $2.4 million, respectively.  Management believes that existing facilitiesare adequately covered by insurance and sufficient for our present purposes andanticipated growth in the foreseeable future.

 

TheCompany’s Qualified Intermediaries (the “QI’s”) 1031 offices were operated asRocky Mountain Exchange at 1087 Stoneridge Drive, Bozeman, Montana and GraniteExchange, Inc. at 1400 Rocky Ridge Drive, Suite 280, Roseville,CA.  In July, 2008, the Company closedthe exchange office in Bozeman, Montana which was 954 rentable square feet fora three-year term beginning November 2006 under a triple net lease.  The lease payment under this agreement is$13.00 per square foot per year with no escalation, and pro-rata common areamaintenance charges.

 

TheGranite Exchange location until February 2009 was in a new two-storybuilding constructed during 2005, commonly called the Rocky Ridge CorporateCenter.  The property was 2,776 rentablesquare feet available under a five-year lease dated April 12, 2005 withoccupancy started August 2005.  Themonthly rent per square foot was $2.35 with annual escalations of $0.05 peryear, and monthly payments of pro-rata operating expenses.  An agreement to terminate this occupancy wasmade effective during February 2009 whereupon the two employees of GraniteExchange moved into the Roseville branch office of Silverado Bank.

 

TheCompany’s 1031 division occupancy expense for the year ended December 31,2008 was approximately $203,000 compared to $172,000 for the year ended December 31,2007.  Management believes that thefacility that currently houses Granite Exchange, Inc. is adequatelycovered by insurance and sufficient for the present activities of thisoperating unit and its anticipated growth during the foreseeable future.

 

TheCompany maintains insurance coverage on all premises described above, and thereare no known likely trends or uncertainties in future rent or amortizationexpense that could materially affect the Company’s cash flows.

 

**ITEM 3.     LEGAL PROCEEDINGS**

 

With the exception of the matters disclosed below, in the normal courseof business, the Company is involved in various legal proceedings.  In the opinion of management, any liabilityresulting from such proceedings would not have a material adverse effect on theCompany’s financial condition or results of operation.

 

On November 21, 2008 a complaint was filed in the Superior Courtof California for the County of Sacramento by The Bank Holdings and GraniteExchange, naming Capital Exchange Services, LLC, Justin Swift, Robert Awalt,Lonnie Nielson, Kenneth O’Brien and Bill Herenda as the Defendants.  The complaint sites a breach of employmentagreements and fiduciary duties of the Defendants.  Thee Bank Holdings and Granite Exchange areseeking damages and injunctive relief — including an injunction againstcompetition and misappropriation of trade secrets, compensatory damages, trebledamages, punitive and exemplary damages, attorneys’ fees, and restitution —based on fraudulent inducement, constructive fraud, trade secret misappropriation,breach of employment agreement, breach of fiduciary duty, intentionalinterference with prospective business advantage, fraudulent misrepresentation,conversion, and unfair competition.  On December 29,2008 a cross-complaint was filed by the Defendants who are seeking anaccounting, access to corporate records, compensatory damages, punitivedamages, and attorneys’ fees. In March 2009 the parties engaged in mediationand reached a tentative settlement of the matter and are working towardfinalization of the terms. There can be no assurances that the settlement willultimately be realized or that the matter will be resolved without trial.

 

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**ITEM 4.     SUBMISSION OF MATTERS TO A VOTE OFSECURITY HOLDERS**

 

No substantive matters were submitted to a vote of the security holdersduring the fourth quarter of the period covered by this report.

 

**PART II**

 

**ITEM 5.     MARKET FOR REGISTRANT’S COMMON EQUITY,RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES**

 

**(a)  Market Information**

 

Between December 27, 2001, the date the Bank opened for business,and March 22, 2004, there were no trades in the Bank’s stock of whichmanagement is aware, and there appeared to be no active trading market.

 

The Company’s Common Stock was listed on the NASDAQ Small Cap Market onMarch 23, 2004.  Prior to that,Nevada Security Bank’s Common Stock was listed on the Over-The-Counter BulletinBoard (OTCBB).  Our Common Stock tradeson the NASDAQ Stock Market® under the symbol TBHS and the CUSIP number of suchcommon stock is 88331E104.

 
| **Calendar Quarter ** | ** ** | **Sale Price of the Company’s  Common Stock (per share)** | ** ** | **Approximate Trading** | ** ** |
|---------------------------------|------------|---------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| **Ended**                       | ** ** | **High**                                                                                          | ** ** | **Low**                      | ** ** | **Volume in Shares** | ** ** |
| March 31,  2007            |       | 19.75                                                                                             |       | 17.78                        |       | 205,362 |   |
| June 30,  2007             |       | 18.70                                                                                             |       | 15.25                        |       | 508,988 |   |
| September 30,  2007        |       | 16.26                                                                                             |       | 13.99                        |       | 222,388 |   |
| December 31,  2007         |       | 14.48                                                                                             |       | 8.61                         |       | 450,609 |   |
| March 31,  2008            |       | 9.55                                                                                              |       | 7.29                         |       | 212,962 |   |
| June 30,  2008             |       | 9.75                                                                                              |       | 5.70                         |       | 146,826 |   |
| September 30,  2008        |       | 6.95                                                                                              |       | 2.33                         |       | 211,541 |   |
| December 31,  2008         |       | 3.74                                                                                              |       | 0.52                         |       | 769,937 |   |

 

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**THE BANK HOLDINGS**

 

 
| ** **                | ** ** | **Period Ending** | ** ** |
|---------------------------|------------|------------------------|------------|
| **Index**                 | ** ** | **03/23/04**           | ** ** | **12/31/04** | ** ** | **12/31/05** | ** ** | **12/31/06** | ** ** | **12/31/07** | ** ** | **12/31/08** | ** ** |
| Bank Holdings             |       | 100.00                 |       | 142.76 |   | 136.50 |   | 137.59 |   | 68.43 |   | 5.70 |   |
| SNL Bank Index            |       | 100.00                 |       | 110.85 |   | 112.36 |   | 131.43 |   | 102.14 |   | 58.28 |   |
| NASDAQ Composite          |       | 100.00                 |       | 114.39 |   | 115.96 |   | 127.00 |   | 139.46 |   | 82.92 |   |
| SNL Bank  $500M-$1B Index |       | 100.00                 |       | 113.03 |   | 117.87 |   | 134.06 |   | 107.43 |   | 68.84 |   |

 
| Source: SNL Financial LC, Charlottesville, VA | (434) 977-1600 |
|-----------------------------------------------|----------------|
| **© 2009**                               |           |
|                                          | www.snl.com    |

 

Management is aware of the following securities dealers who make amarket in the Company’s stock:  D.A.Davidson & Co., Two Centerpointe Dr., Suite 400, Lake Oswego,OR  97035, phone number 800-249-2610attn: Cindy Burg; Howe Barnes Investments Inc., 135 South LaSalle Street,Chicago, IL  60603, phone number312-655-3000; 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”).

 

Purchases of EquitySecurities by the Issuer and Affiliated Purchasers

 

During December 2007,the Company’s Board of Directors approved a plan to repurchase, as conditionswarrant, up to $3.0 million of the Company’s common stock on the open market orin privately negotiated transactions. The duration of the program is open ended and the timing of thepurchases would depend upon market conditions; however, based on current capitalconstraints, it is unlikely that any further stock repurchases will occur.  During early 2008, there were 1,000 sharesrepurchased and held as treasury stock. On December 26, 2008 all treasury stock and fourth quarter stockpurchase shares were cancelled by the Company. The following are details on repurchases under this plan for the fourthquarter of 2008:

 

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| ** **                                                        | ** ** | **ISSUER PURCHASES OF EQUITY SECURITIES** | ** ** |
|-------------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                        | ** ** | ** **                                                    | ** ** | ** ** | ** ** | **(c) Total Number** | ** ** | **(d) Approximate Dollar** | ** ** |
| ** **                                                        | ** ** | ** **                                                    | ** ** | ** ** | ** ** | **of Shares Purchased** | ** ** | **Value of Shares** | ** ** |
| ** **                                                        | ** ** | **(a) Total Number**                                | ** ** | **(b) Average** | ** ** | **as Part of Publicly** | ** ** | **that May Yet Be Purchased** | ** ** |
| ** **                                                        | ** ** | **of Shares**                                            | ** ** | **Price Paid** | ** ** | **Announced Plans** | ** ** | **Under the Plans** | ** ** |
| **Period**                                                        | ** ** | **Purchased**                                                 | ** ** | **per Share** | ** ** | **or Programs** | ** ** | **or Programs** | ** ** |
| Repurchases from  October 1, 2008 to October 31, 2008   |       | —                                                        |       | $ | — |   | — |   | $ | 2,990,730 |   |
| Repurchases from  November 1, 2008 to November 30, 2008 |       | —                                                        |       | $ | — |   | — |   | $ | 2,990,730 |   |
| Repurchases from  December 1, 2008 to December 31, 2008 |       | 35,920                                                        |       | $ | 1.01 |   | 35,920 |   | $ | 2,954,464 |   |

 

**(b)  Holders**

 

On March 2, 2009 total shareholders of record were 1,183.  There were 580 individual shareholders whilestreet name holders totaled about 603.

 

**(c)  Dividends**

 

Asa bank holding company which currently has no significant assets other than our100% ownership of Nevada Security Bank and 100% ownership of Granite Exchange,our ability to pay cash dividends depends upon the dividends we receive fromour subsidiaries.  The dividend practiceof Nevada Security Bank and Granite Exchange, like our dividend practice, willdepend upon earnings, financial condition and other relevant factors, includingapplicable regulatory orders and restrictions with respect to dividends.

 

NevadaSecurity Bank’s ability to pay cash dividends to the holding company is alsosubject to certain legal limitations. Under Nevada law, a bank cannot declare a cash dividend or make adistribution of its net profits until (a) the bank’s surplus fund equalsits initial stockholders’ equity (excluding the amount of the initial surplusfund) and (b) ten percent of the previous year’s net profits have beencarried to the surplus fund. Additionally, no distribution may be made if it would result in the bank’sstockholders’ equity (including the reserve for loan losses) being less than 6%of the bank’s average total daily deposit liabilities for the preceding 60 daysor if it would reduce the stockholders’ equity below the initial stockholders’equity or below minimum applicable regulatory capital requirements underfederal law.  Also, under Nevada lawapplicable to Nevada Security Bank, and to Nevada corporations generally, nodistribution may be made if, after giving effect to it, the corporation wouldbe unable to pay its debts as they become due in the usual course of businessor the sum of the corporation’s assets would be less than the sum of itsliabilities plus the amount (if any) that would be needed to satisfy the rightsof holders of any preferred stock of the corporation, assuming the corporationwere to be dissolved at the time of the distribution.

 

Stockdividends are not subject to the Nevada law restrictions or distributions, asdescribed above, because a corporation’s assets, liabilities and totalstockholders’ equity do not change as a result of the stock dividend.

 

Previously,the Company declared a five percent (5%) stock dividend payable to shareholdersas of February 15, 2007, and declared a five percent (5%) stock dividendpayable to shareholders as of December 8, 2005.

 

Shareholdersare entitled to receive dividends only when and if declared by our board ofdirectors, and we have no current intention to pay cash dividends in theforeseeable future.  Instead, anyearnings which may be generated will be retained for the purpose of increasingour capital and reserves in order to strengthen our balance sheet.

 

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Additionally,during any period in which the Company has deferred payment of interestotherwise due and payable on its Trust Preferred Securities, it may not makeany dividends or distributions with respect to its capital stock (see “Item 7Management’s Discussion and Analysis of Financial Condition and Results ofOperations — Capital Resources”).

 

**(d)  Securities Authorized for Issuance under Equity CompensationPlans**

 

The following table provides information as of December 31, 2008,with respect to options outstanding and available under our Stock Option Plan,which is our only equity compensation plan other than an employee benefit planmeeting the qualification requirements of Section 401(a) of theInternal Revenue Code:

 

Equity Compensation Plan Information

 
| **Plan Category**                                      | ** ** | **Number of Securities to  be issued upon exercise  of outstanding options,  warrants and rights  (a)** | ** ** | **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     |       | 688,431                                                                                                                                                   |       | $                                                                                                           | 13.79      |                                                                                                                                                                                                    | 412,394    |   |
| Equity compensation  plans not approved by security holders |       | —                                                                                                                                                    |       | —                                                                                                      |       | —                                                                                                                                                                                                  |       |
|                                                        |       |                                                                                                                                                      |       |                                                                                                        |       |                                                                                                                                                                                                    |       |
| Total                                                       |       | 688,431                                                                                                                                                   |       | $                                                                                                           | 13.79      |                                                                                                                                                                                                    | 412,394    |   |

 

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**ITEM 6.  SELECTED FINANCIAL DATA**

 
| ** **                              | ** ** | **Year Ended December 31,**                                      | ** ** |
|-----------------------------------------|------------|---------------------------------------------------------------------------------|------------|
| ** **                              | ** ** | **2008**                                                                        | ** ** | **2007** | ** ** | **2006** | ** ** | **2005 (1)** | ** ** | **2004** | ** ** |
| ** **                              | ** ** | **(Dollars in thousands, except per share data)** | ** ** |
| **Condensed  Statement of Operations**  |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Interest Income                         |       | $                                                                               | 36,826     |   | $ | 45,183 |   | $ | 31,039 |   | $ | 17,166 |   | $ | 10,536 |   |
| Interest Expense                        |       | 17,490                                                                          |       | 22,964 |   | 15,083 |   | 7,344 |   | 3,669 |   |
| Net Interest  Income                    |       | 19,336                                                                          |       | 22,219 |   | 15,956 |   | 9,822 |   | 6,867 |   |
| Provision for  Loan Losses              |       | 4,025                                                                           |       | 3,007 |   | 771 |   | 1,069 |   | 764 |   |
| Non-interest  income                    |       | (15,313                                                                         | )          | 1,422 |   | 1,682 |   | 772 |   | 420 |   |
| Non-interest  expense                   |       | 44,410                                                                          |       | 18,307 |   | 13,582 |   | 8,823 |   | 6,242 |   |
| Attributable to  minority shareholders  |       | —                                                                          |       | (27 | ) | 127 |   | — |   | — |   |
| Provision for  income taxes             |       | (7,028                                                                          | )          | 625 |   | 1,075 |   | (710 | ) | — |   |
| Net Income  (Loss)                      |       | $                                                                               | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   | $ | 1,412 |   | $ | 281 |   |
|                                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| **Period  End Data**                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Assets                                  |       | 556,045                                                                         |       | 626,640 |   | 651,540 |   | 384,632 |   | 246,842 |   |
| Loans, gross                            |       | 441,222                                                                         |       | 474,769 |   | 463,858 |   | 245,185 |   | 160,708 |   |
| Securities                              |       | 60,521                                                                          |       | 80,276 |   | 92,927 |   | 83,821 |   | 69,128 |   |
| Deposits                                |       | 466,012                                                                         |       | 451,335 |   | 496,997 |   | 338,198 |   | 188,341 |   |
| Other borrowed  funds                   |       | 47,619                                                                          |       | 91,229 |   | 60,149 |   | 15,464 |   | 30,500 |   |
| Shareholders’  Equity              |       | 37,244                                                                          |       | 74,837 |   | 73,456 |   | 28,702 |   | 27,376 |   |
|                                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| **Average  Balance Sheet**              |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Assets                                  |       | 617,671                                                                         |       | 649,110 |   | 452,179 |   | 293,580 |   | 233,439 |   |
| Loans, gross                            |       | 458,711                                                                         |       | 478,461 |   | 308,411 |   | 201,267 |   | 122,454 |   |
| Securities                              |       | 89,293                                                                          |       | 85,306 |   | 91,736 |   | 69,668 |   | 90,242 |   |
| Deposits                                |       | 459,396                                                                         |       | 492,347 |   | 359,932 |   | 245,322 |   | 199,305 |   |
| Shareholders’  Equity              |       | 63,022                                                                          |       | 74,696 |   | 41,256 |   | 28,061 |   | 23,090 |   |
|                                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| **Asset  Quality**                      |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Non-performing  assets (2)              |       | 29,433                                                                          |       | 6,433 |   | 549 |   | — |   | — |   |
| Allowance for  loan losses              |       | 8,061                                                                           |       | 7,276 |   | 5,430 |   | 2,655 |   | 1,586 |   |
| Net Charge-offs                         |       | 3,240                                                                           |       | 1,161 |   | — |   | — |   | — |   |
| Non-performing  assets to total assets  |       | 5.34                                                                            | %          | 1.03 | % | 0.08 | % | — |   | — |   |
| Allowance for  loan losses to loans     |       | 1.83                                                                            | %          | 1.53 | % | 1.17 | % | 1.08 | % | 0.99 | % |
| Net Charge-offs  to average loans       |       | 0.71                                                                            | %          | 0.24 | % | — |   | — |   | — |   |
|                                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| **Per  Common Share**                   |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Basic income  (loss) per share          |       | (6.41                                                                           | )          | 0.30 |   | 0.51 |   | 0.45 |   | 0.10 |   |
| Diluted income  (loss) per share        |       | (6.41                                                                           | )          | 0.29 |   | 0.49 |   | 0.41 |   | 0.09 |   |
| Book value per  share at year end       |       | 6.43                                                                            |       | 12.83 |   | 12.62 |   | 9.19 |   | 9.21 |   |
| Period end  common outstanding *        |       | 5,794,179                                                                       |       | 5,831,099 |   | 5,831,099 |   | 3,280,479 |   | 3,120,947 |   |
| Average shares  outstanding - basic *   |       | 5,828,697                                                                       |       | 5,831,099 |   | 4,117,351 |   | 3,122,809 |   | 2,884,131 |   |
| Average shares  outstanding - diluted * |       | 5,830,590                                                                       |       | 5,968,687 |   | 4,290,122 |   | 3,443,856 |   | 2,980,938 |   |
|                                    |       |                                                                            |       |   |   |   |   |   |   |   |   |
| **Financial  Ratios**                   |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Return on  average assets               |       | (6.05                                                                           | )%         | 0.27 | % | 0.46 | % | 0.48 | % | 0.12 | % |
| Return on  average equity               |       | (59.32                                                                          | )%         | 2.31 | % | 5.05 | % | 5.03 | % | 1.22 | % |
| Net interest  margin (3)                |       | 3.43                                                                            | %          | 3.79 | % | 3.74 | % | 3.49 | % | 3.12 | % |
| Tier 1 leverage  capital ratio          |       | 8.89                                                                            | %          | 10.39 | % | 9.85 | % | 10.06 | % | 11.01 | % |

 

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* Adjusted for StockDividends of February 15, 2007 and December 28, 2005 

(1) The Company removed the valuation allowance on deferred tax assets, andincurred franchise taxes on its allocated California income.

(2) Non-performing assets consists of loans 90 days or more delinquent and stillaccruing interest, investments or loans placed on non-accrual status, and otherreal estate owned.

(3) Net interest income divided by average interest earning assets.

 

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**ITEM 7.     MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

**INTRODUCTION**

 

Thefollowing provides Management’s comments on the financial condition and resultsof operations of The Bank Holdings and its subsidiaries.  Unless otherwise stated, “The Company” refersto this consolidated entity and “we” refers to the Company’s management. Youshould read this discussion in conjunction with the Company’s ConsolidatedFinancial Statements and the notes to the Consolidated Financial Statements.

 

The Selected Financial Data table in Item 6 of this document is derivedfrom the audited Consolidated Financial Statements of the Company and from ourinternal accounting system.  The selectedfinancial data should be read in conjunction with the audited ConsolidatedFinancial Statements and Notes thereto, and Management’s Discussion andAnalysis of Financial Condition and Results of Operations.

 

Thisdiscussion presents management’s analysis of the financial condition and resultof operations of The Bank Holdings, Nevada Security Bank, and the Company’s1031 QI division, for each of the periods ended December 31, 2008, 2007,and 2006 and includes the statistical disclosures required by SEC Guide 3 (“StatisticalDisclosure by Bank Holding Companies”). The discussion should be read in conjunction with the financialstatements of The Bank Holdings, Nevada Security Bank, and the 1031 division,and the notes related thereto which appear elsewhere in this document.

 

**RecentMarket Developments**

 

In response to the financial crises affecting the banking system andfinancial markets and going concern threats to “mega-banks” “too big to failbanks”, investment banks and other financial institutions, on October 3,2008, the Emergency Economic Stabilization Act of 2008 (the “EESA”) was signedinto law. Pursuant to the EESA, the U.S. Treasury was given the authority to,among other things, purchase up to $700 billion of mortgages,mortgage-backed securities and certain other financial instruments fromfinancial institutions for the purpose of stabilizing and providing liquidityto the U.S. financial markets.

 

OnOctober 14, 2008, the Secretary of the Department of the Treasuryannounced that the Department of the Treasury will purchase equity stakes in awide variety of banks and thrifts. Under the program, known as the TroubledAsset Relief Program Capital Purchase Program (the “TARP Capital Purchase Program”),from the $700 billion authorized by the EESA, the Treasury made$250 billion of capital available to U.S. financial institutions in theform of preferred stock. In conjunction with the purchase of preferred stock,the Treasury received, from participating financial institutions, warrants topurchase preferred or common stock, depending on the institution. Participatingfinancial institutions were required to adopt the Treasury’s standards forexecutive compensation and corporate governance for the period during which theTreasury holds equity issued under the TARP Capital Purchase Program. On October 31,2008, the Company announced that it would apply for funds available through theTARP Capital Purchase Program.  However,as of February 28, 2009,while the Company has been in ongoing discussionswith the FDIC, it had not yet received notification from the U.S. Treasury thatits application for the TARP Capital Purchase Program funds had been approvedor denied.  Further, new measures havebeen adopted and further legislative considerations are underway that havematerially changed the Company’s perception of the value of the TARP CapitalPurchase Program and its participation. Our request was based on the conservatorship of the Government SponsoredEnterprises (GSE’s) Fannie Mae (FNMA) and Freddie Mac (FHLMC) and CongressmanBarney Frank’s insertion of a provision in the TARP Capital Purchase Programbill “to give special consideration to banks that had less than $1 billion ofassets, had been well-capitalized as of June 30, served low and moderateincome areas, and had taken a capital hit in the seizure of Fannie Mae andFreddie Mac.”

 

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On November 21, 2008, the Board of Directors of the FederalDeposit Insurance Corporation (“FDIC”) adopted a final rule relating tothe Temporary Liquidity Guarantee Program (“TLG Program”). The TLG Programwas announced by the FDIC on October 14, 2008, preceded by thedetermination of systemic risk by the Secretary of the Department of Treasury(after consultation with the President), as an initiative to counter thesystem-wide crisis in the nation’s financial sector. Under the TLG Programthe FDIC will (i) guarantee, through the earlier of maturity or June 30,2012, certain newly issued senior unsecured debt issued by participatinginstitutions on or after October 14, 2008, and before June 30, 2009and (ii) provide full FDIC deposit insurance coverage for non-interestbearing transaction deposit accounts, Negotiable Order of Withdrawal (“NOW”)accounts paying less than 0.5% interest per annum and Interest on Lawyers TrustAccounts (“IOLTA”) accounts held at participating FDIC- insured institutionsthrough December 31, 2009. Coverage under the TLG Program wasavailable for the first 30 days without charge. The fee assessment forcoverage of senior unsecured debt ranges from 50 basis points to100 basis points per annum, depending on the initial maturity of the debt.The fee assessment for deposit insurance coverage is 10 basis points perquarter on amounts in covered accounts exceeding $250,000. On December 4,2008, the Company elected to participate in the second guarantee program mentionedabove, that provides full FDIC deposit insurance coverage for non-interestbearing transaction deposit accounts, as well as NOW accounts and IOLTAaccounts that earn less than 0.5% interest per annum.

 

**Critical Accounting Policies and Estimates**

 

Discussionand analysis of the financial condition and results of operations are based onthe consolidated financial statements of the Company, which are prepared inaccordance with U.S. generally accepted accounting principles (“GAAP”). Thepreparation of these financial statements requires management to make estimatesand judgments that affect the reported amounts of assets, liabilities, revenuesand expenses, and related disclosure of contingent assets and liabilities forthe reporting periods. Management evaluates estimates on an on-going basis, andbelieves the following represent its more significant judgments and estimatesused in preparation of its consolidated financial statements: allowance forloan losses, other real estate owned, estimates of fair value and intangibleassets associated with mergers, other than temporary impairment of investmentsecurities, goodwill and intangible assets, stock-based payment and incometaxes. Management bases its estimates on historical experience and variousother factors and assumptions that are believed to be reasonable under thecircumstances, the results of which form the basis for making judgments aboutthe carrying values of assets and liabilities that are not readily apparentfrom other sources. It is at least reasonably possible that each of the Company’sestimates could change in the near term and the effect of the change could bematerial to the Company’s Consolidated Financial Statements.

 

Managementbelieves the following critical accounting policies affect its most significantjudgments and estimates used in preparation of its consolidated financialstatements: allowance for loan losses, fair value, other than temporaryimpairment of investment securities, goodwill and intangible assets and incometaxes. Each estimate is discussed below. The financial impact of each estimate,to the extent significant to financial results, is discussed in the applicablesections of Management’s Discussion and Analysis.

 

**Allowance for Loan Losses**

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 reportingdate.  Quantitative factors include ourhistorical loss experience, peer bank loss experience, delinquency andcharge-off trends, collateral values, changes in nonperforming loans, loanconcentrations 

 

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andother factors.  Qualitative factorsinclude the general economic conditions in our multi-state locations, and inparticular, the state of certain industries in northern Nevada and northernCalifornia. Size and complexity of individual credits in relation to loanstructure, existing loan policies and pace of portfolio growth are otherqualitative factors that are considered in the methodology.  As we add new products and increase the complexityof our loan portfolio, we enhance our methodology accordingly.  Management may report a materially differentamount for the provision for loan losses in the statement of operations tochange the balance of the allowance for loan losses if its assessment of theabove factors were different.

 

Theunallocated component of the allowance exists to mitigate the imprecisioninherent in management’s estimates of expected credit losses and includesmanagement’s judgmental determination of the amounts necessary forconcentrations, economic uncertainties and other subjective factors that maynot have been fully considered in the allocated allowance.  The relationship of the unallocated componentto the total allowance may fluctuate from period to period.  Although management has allocated the majorityof the allowance to specific loan categories, the evaluation of the allowanceis considered in its entirety.

 

Thisdiscussion and analysis should be read in conjunction with our financialstatements and the accompanying notes presented elsewhere herein as well as theportion of this Management’s Discussion and Analysis section entitled “Provisionfor Loan Losses” and “Allowance for Loan Losses”. Although management believesthe levels of the allowance as of December 31, 2008 and 2007 were adequateto absorb probable losses inherent in the loan portfolio, a further decline inlocal economic conditions, or other factors, could result in increasing lossesthat cannot be reasonably predicted at this time.

 

**Estimatesof the Fair Value of Assets**

Certainassets of the Company are recorded at fair value, or the lower of cost or fairvalue.  In some cases, the fair valueused is an estimate.  Included amongthese assets are securities that are classified as available-for-sale, ortrading, goodwill and other intangible assets, and other real estate owned andimpaired loans.  These estimates maychange from period to period as they are impacted by changes in interest ratesand other market conditions.  Losses notanticipated or greater than anticipated could result if the Company were forcedto sell these assets and discovered that its estimate of fair value had beentoo high.  Gains not anticipated orgreater than anticipated could result if the Company were to sell any of theseassets and discover that its estimate of fair value had been too low.

 

**Other Than Temporary Impairment of Investment Securities(OTTI)**

Securitiesare monitored to determine whether a decline in their value isother-than-temporary. Management utilizes criteria such as the magnitude andduration of the decline, in addition to the reasons underlying the decline, todetermine whether the loss in value is other-than-temporary, such as theability to collect amounts due per the contractual terms of the investmentsecurity agreement. The term “other than temporary” is not intended to indicatethat the decline in value is permanent. It indicates that the prospects for anear term recovery of value are not necessarily favorable, or that there is alack of evidence to support fair values equal to, or greater than, the carryingvalue of the investment. Once a decline in value is determined to be other thantemporary, the value of the security is reduced and a corresponding charge toearnings is recognized.

 

**Goodwill and Intangible Assets**

Foracquisitions, the Company records the assets acquired, including identifiedintangible assets, and liabilities assumed at their fair value, which in manyinstances involves estimates based on third party valuations, such asappraisals, or valuations based on discounted cash flow analyses or othervaluation techniques. The determination of the useful lives of intangibleassets is subjective, as is the appropriate amortization period for suchintangible assets. These estimates also include the establishment of variousaccruals and allowances based on planned facilities dispositions and employeeseverance considerations, among other acquisition-related items. In addition,purchase acquisitions typically result in goodwill, which represents the excessof the purchase price over the fair value of the net assets acquired by theCompany. The Company tests goodwill annually for impairment. Such tests involvethe use of estimates and assumptions.  

 

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During2008, the Company recognized an impairment loss of $26.5 million.  See NOTE 9 — Goodwill, presented elsewhereherein.  Intangible assets other thangoodwill, such as deposit-based intangibles which are determined to have finitelives, are amortized over their estimated useful lives, which is approximatelyseven years.

 

**Income Taxes**

The Company accounts for income taxes under theasset/liability method. Deferred tax assets and liabilities are recognized forthe future consequences attributable to differences between the financialstatement carrying amounts of existing assets and liabilities and theirrespective tax bases, as well as operating loss and tax credit carry forwards.A valuation allowance is established against deferred tax assets when in thejudgment of management, it is more likely than not that such deferred taxassets will not become realizable.

 

Effective January 1, 2007, the Company adoptedthe provisions of Financial Accounting Standards Board (“FASB”) Interpretation No. 48,“Accounting for Uncertainty in Income Taxes” (“FIN No. 48”), whichprescribes the recognition and measurement of tax positions taken or expectedto be taken in a tax return. FIN No. 48 provides guidance forderecognition and classification of previously recognized tax positions thatdid not meet certain recognition criteria in addition to recognition ofinterest and penalties, if necessary.

 

**OVERVIEW**

 

The following discussion and analysis presents the more significantfactors affecting the Company’s financial condition as of December 31,2008 and 2007 results of operations for each of the years in the three yearperiod ended December 31, 2008. This discussion should be read in conjunction with the Company’sconsolidated financial statements, notes thereto and other financialinformation appearing elsewhere in this report.

 

The Company earns income from two primary sources; net interest incomegenerated by the successful employment of earning assets less the costs ofinterest-bearing liabilities, and net non-interest income, which is generatedby service charges and fees charged for services provided, less the operatingcosts of providing the full range of banking and other financial services toour customers.  Service charges on loansand deposits, income on bank owned life insurance and 1031 exchange fees, gainson sale of securities and unrealized gains or losses on the Company’s tradingaccount and fair value loans comprise primary areas of non-interest income.

 

**SUMMARY: RESULTS OF OPERATIONS**

 

**2008 Over 2007**

 

As reflected in the Consolidated Statements of Operations for the yearended December 31, 2008, the Company generated an after tax net loss of$37.4 million and for the years ended December 31, 2007 and 2006 theCompany generated net income of $1.7 million, and $2.1 million,respectively.  Basic and diluted net lossper share for the year ended December 31, 2008 was $6.41 compared withbasic and diluted earnings per share of $0.30 and $0.29, respectively, for theyear ended December 31, 2007.  TheCompany’s annual return on average equity was (59.32)% and annual return onaverage assets was (6.05)% for the year ended December 31, 2008, comparedto 2.31% and 0.27% respectively, for the same period of 2007 and 5.05% and0.46% for 2006.

 

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The primary drivers behind the variance in net income for the yearended December 31, 2008 compared to the year ended December 31, 2007were as follows:

 

·      The non-cash goodwillimpairment of $26.9 million for the acquisitions of Northern Nevada Bank andthe two exchange companies during 2006, a charge which was taken for the yearended December 31, 2008.

·      The actions of the TreasuryDepartment’s placement of Freddie Mac (FHLMC) and Fannie Mae (FNMA) intoconservatorship rendered the preferred securities the Company owned worthless,and therefore the Company recorded an impairment charge of $12.0 million as aresult of such actions.

·      The turmoil in the creditmarkets led the Company to recognize a one time $1.5 million charge in otherthan temporary impairments for several trust preferred securities held by theCompany and issued by other bank holding companies and one corporate security.

·      The challenging economicconditions that started in 2007 with the deterioration of the real estatemarkets and that expanded during 2008 into severe turmoil in credit markets andthe general economy nationally, regionally and locally.  Federal Open Market Committee actions andconsumer flight to safety concerns placed increased pressure on the Company’snet interest margin.  This turmoil andthe daily headlines concerning the financial crisis have affected the entirefinancial industry’s market value including the Company’s, the result of whichhas led us to recognize a one-time, non-cash goodwill impairment of $26.9million.

·      The U.S. Treasury’sguarantee of broker-dealer money market funds caused a flight to “too big tofail” banks of over $20 million in customer accounts that had balances inexcess of $1 million.

·      Exclusive of the other thantemporary impairments and the non-cash goodwill impairment, the pre-taxoperating loss for the year ended December 31, 2008 was $4.0 million,after a loan loss provision of $4.025 million.

·      The Company reduced thenumber of offices by closing a temporary Bank branch office in Sparks, NV, andRocky Mountain Exchange, a 1031 division company in Bozeman, Montana.

·      The substantial decrease inmoney market conditions, with the prime lending rate dropping by 400 basispoints since December 2007, with resulting margin compression.

·      Interest income decreased$8.4 million to $36.8 million or 18.5% for 2008 compared to 2007.

·      Interest expense decreased$5.5 million to $17.5 million or 23.8% for 2008 compared to 2007.

·      Net interest income beforeprovision for loan losses decreased by $2.9 million or 13.0%.

·      Net interest margindecreased 36 basis points to 3.43%.

·      The provision for loanlosses increased by $1.0 million, or 33.9%, for the year ended 2008.

·      Non-interest incomedecreased $16.7 million, or 1,176.9%, as a result of other than temporaryimpairments and unrealized and realized losses in the trading and investmentsaccounts amounting to $16.4 million.

·      Non-interest expensedecreased $808,000 or 4.4%, not including the non-cash goodwill impairmentcosts.

·      Personnel levels decreasedby 20 FTE during the 2008 period, but expenditure levels were unaffected due toFAS 91 loan cost amortization and increased group insurance costs.

·      The benefit for taxes wasincreased by the investment losses and impairments and by the effects ofpermanent book/tax differences including $1.1 million of non-taxable interestand dividends.

·      Average earning assetsdecreased $23.6 million or 4.0%.

·      Average interest bearingliabilities were $490.6 million, a decrease of 1.1%.

·      The Company’s weightedaverage prime rates for the years 2008, 2007 and 2006 were 5.09%, 8.05%, and7.96%, respectively.

·      The Company’s 1031 divisiondeposits were substantially reduced as a result of the turmoil in theresidential and commercial real estate markets. The 1031 division fees dropped as a result of substantially lesservolumes of exchange activity.

 

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Focusing on 2009, the following strategic initiatives are expected todrive profitability and growth in earnings per share:

 

·      A renewed effort on gathering deposits through electronic remotedeposit capture channels and restructuring of business development activitiesto reward deposit growth.

·      A continued reduction of non-interest expense as the Company iscommitted to the delivery of products and services in the most efficient mannerpossible, re-engineering processes to capture efficiencies while maintainingSOX section 404 procedural separation requirements.

·      A commitment to invest in revenue generating strategic initiatives tobe funded through operational efficiencies.

·      Strengthening of our balance sheet through specific strategies intendedto reduce our funding costs without losing sight of liquidity and customermaintenance responsibilities.

·      Focus on leveraging our 1031 QI expertise in a branch setting wherecustomer leads are enhanced and coordinated marketing efforts are rewarded.

 

**2007 Over 2006**

 

For the year ended December 31, 2007, the Company generated aftertax net income of $1.7 million and for the years ended December 31, 2006and 2005, the Company generated net income of $2.1 million, and $1.4 million,respectively.  Basic and diluted earningsper share for the year ended December 31, 2007 were $0.30 and $0.29compared with basic and diluted earnings per share of $0.51 and $0.49 for theyear ended December 31, 2006.  TheCompany’s annual return on average equity was 2.31% and annual return onaverage assets was 0.27% for the year ended December 31, 2007, compared to5.05% and 0.46% respectively, for the same period of 2006 and 5.03% and 0.48%for 2005.  There were a number ofmonetary and non-monetary events that occurred during 2007 that had an impacton the reported performance of the Company. The monetary events that resulted in significant changes in the Company’sreported performance include the growth of assets under management and theinterest rate margin compression resulting from the substantial changes inshort term interest rates. The significant non-monetary events include theexpansion of our branch network with a new branch office in Rancho Cordova, CA,increasing our product lines with the addition of remote deposit capture, thethird and fourth quarter downturn in the national, state, and regionaleconomies and the deteriorating economy faced by our customers, especiallythose affected by the real estate market’s downturn.

 

The primary drivers behind the variance in net income for the year of2007 relative to 2006 were as follows:

 

·      The additional assets, liabilities, income and expense attributed tothe full year addition of NNB Holdings, Inc. during 2007 when comparedwith 2006.

·      The additional professional expenses reflective of the Congressionaladoption of the Sarbanes-Oxley Act, accounting, legal and other professionalcosts increasing $928,000 or 162.8%.

·      Interest income increased $14.1 million to $45.2 million or 45.6% for2007 compared to 2006.

·      Net interest income before provision for loan losses increased by $6.3million or 39.3%.

·      Net interest margin increased five basis points to 3.79%.

·      The provision for loan losses increased by $2.2 million or 301.8% forthe year end 2007.

·      Non-interest income was $1.4 million for 2007, a decrease of $260,000or 15.5%.

·      Non-interest expense increased $4.7 million or 34.8%.

·      Salaries and benefits increased $1.9 million or 25.6%.

·      Occupancy increased $788,000 or 41.0%.

·      Deposit service costs were $1.1 million, an increase of 139.5% over thesame period in 2006.

·      All other expenses increased $419,000 or 13.9%.

·      Average earning assets increased $160.0 million or 37.5%.

·      Average interest bearing liabilities were $495.8 million, an increaseof 38.6%.

·      The Company’s weighted average prime rates for the years 2007, 2006 and2005 were 8.05%, 7.96%, and 6.19%, respectively.

 

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**2006 Over 2005**

 

For the year ended December 31, 2006, the Company generated aftertax net income of $2.1 million.  Basicand diluted earnings per share for the year ended December 31, 2006 was$0.51 and $0.49.  The Company’s annualreturn on average equity was 5.05% and annual return on average assets was0.46% for the year ended December 31, 2006.  There were a number of monetary andnon-monetary events that occurred during 2006 that had an impact on thereported performance of the Company.  Themonetary events that resulted in significant changes in the Company’s reportedperformance include the substantial growth of assets under management, theincrease in short term funding costs during the year, being in a fully taxableposition as compared to the removal of a valuation allowance against deferredtax assets during 2005 and the acquisition related addition of $42.9 million incapital for the Company.  The significantnon-monetary events included the acquisition of the 1031 financialintermediaries during the first quarter of 2006 and the purchase and mergerwith NNB Holdings and Northern Nevada Bank in November of 2006.  In addition, we opened a new branch office inSparks, Nevada, and had an approved but unopened office in Rancho Cordova,CA.  The Company in conjunction with thepurchase and merger of NNB Holdings and Northern Nevada Bank also converted itsdata processing structure from a service bureau to an in-house processingsystem.

 

The primary drivers behind the variance in net income for the year of2006 relative to 2005 were as follows:

 

·      Net interest income after provision for loan losses increased by $6.4million or 73.5%.

·      The Company recorded $448,000 in exchange fee income and there was nosimilar item in 2005.

·      Unrealized gains on trading equities amounted to $443,000 for 2006.

·      Salaries and benefits increased $3.4 million or 80.4%.

·      Occupancy expenses increased $389,000 or 25.4%.

·      Data processing costs increased $227,000 or 31.0%.

·      All other expenses increased $748,000 or 32.0%.

·      The Company’s weighted average prime rates for the years 2006 and 2005were 7.96% and 6.19%, respectively.

 

**RESULTS OF OPERATIONS**

 

**2008 Over 2007**

 

The primary factors in the Company’s reduced earnings in 2008 whencompared to 2007 were the non-recurring goodwill impairment charges of $26.9million, the investment portfolio impairments totaling $13.5 million (a resultof the conservatorship established by the U.S. Treasury Department over FNMAand FHLMC), as well as the $4 million loan loss reserve provision (inflatedloan loss provision due to the increases in non-performing assets and loancharge-offs). These factors were brought about by the continued deteriorationof the real estate markets and the severe credit conditions throughout thefinancial industry.  During late 2008,the credit markets seized up with counterparty credit issues at the fore, andas a result, many of our borrowers are finding great difficulty in sellingtheir products related to the real estate industry.  These products range from completed lots, towindows for new homes or homes being remodeled. Although this has substantially impacted our business model, managementhas continued to focus attention on credit quality, non-performing assets andconcerns about the economy.  Whilemanagement believes the allowance adequately covers the inherent losses in theloan portfolio, no absolute assurance can be given that further substantialadditions will not be required.  Theprovision is determined pursuant to a quarterly comprehensive analysis of theallowance for loan losses.  The allowanceis described in more detail in the Allowance for Loan Losses discussion section(see Appendix 8 & 9) herein.

 

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With a 400 basis point reduction in the prime rate over the past yearfrom 7.25% to 3.25%, the Company’s net interest margin has been severelyimpacted.  Approximately 40% of our loansare prime based, with the result reflected in our 2008 Appendix I 6.94% earningrate on average loans, as compared to 8.46% for the 2007 year.  Further, loans on non-accrual had impactedthis earnings rate by approximately 35 basis points due to over $1.6 million offoregone interest.  Margin compression isa primary concern of management for 2009, especially with regards to increasedcompetition for any type of deposit account.

 

Average funding sources were modified during 2008 as well, with agreater reliance placed on borrowed funds rather than higher costdeposits.  The reduction of about $30million in average deposit volumes was offset by an increase in averageborrowed funds of $23 million, while the Company’s average assets overall werereduced by $31.4 million in 2008 to conform to new capital levels aftersubstantial intangible and investment impairments were taken.

 

**2007 over 2006**

 

The primary factor in the Company’s reduced earnings in 2007 whencompared to 2006 was a $2.2 million increase in the provision for loanlosses.  This was brought about bydeteriorating real estate market conditions which appeared in the thirdquarter, and continued through 2008. Increasing management attention to credit quality, increases innon-performing assets and concern about real estate values led the Company tosubstantially increase the provision for 2007.

 

Also contributing to the Company’s reduction in earnings for 2007 wasthe $4.7 million increase or 34.8% in non-interest expense when compared to2006.  This increase was primarilybrought about by an increase in FTE, the increase in the number of Companylocations, and the costs associated with providing deposit documents for priorNorthern Nevada Bank customers, as well as the substantial increase inprofessional expenses to comply with accounting pronouncements, regulatorymandated internal audit services, and SOX 404 requirements.   Personnel, occupancy and deposit servicecosts increases primarily relate to the full year costs borne in 2007 having todo with the acquisition of Northern Nevada Bank during November 2006.

 

Other factors of lesser import include a decrease of $260,000 or 15.5%in non-interest income.  This decrease ismostly due to the decreases in unrealized gains on trading equities whichdecreased $325,000 over 2006 and exchange fee income with a decrease of$285,000 over 2006.  These decreases innon-interest income were mitigated by increases in service charges on depositaccounts and other fees and charges which increased $355,000 over 2006.

 

One positive factor during the year was net interest income beforeprovision for loan losses, which amounted to $22.2 million, an increase of39.3% over 2006.  This change broughtabout an increase in the Company’s net interest margin, from 3.74% in 2006 to3.79% for 2007.  A negative factorconcerning the Company’s net interest income is the $400,000 of interest incomeforegone as a result of loans placed on non-accrual during 2007. In addition,the Company reported a provision for income taxes of $625,000 for the yearended 2007 as compared to $1.1 million for the year of 2006.

 

**2006 over 2005**

 

A primary contribution to the Company’s improvement in earnings in 2006when compared to 2005 was a $6.2 million increase in net interest income.  This was brought about by average earningassets being approximately 48.8% greater during 2006 over 2005, and the Company’snet interest margin increase of 25 basis points to 3.74% compared to 3.49% forthe year of 2005.  The increase in thenet interest margin was almost solely due to continuing increased volumes, asrate and rate/volume changes nearly offset one another.

 

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Another factor which contributed to the Company’s improvement inearnings during 2006 compared with 2005 was an increase of $910,000 or 118% innon-interest income.  This increase wasmostly due to the substantial increase in unearned income on trading equitieswhich increased $396,000 over 2005 and exchange fee income of $448,000 for 2006with no corresponding income category for 2005. A reduction in the provision for loan losses of $298,000 or 27.9% whencomparing 2006 to 2005 was also a factor in the yearly earnings improvement forthe period ending December 31, 2006.

 

Several factors mitigated the improved earnings discussed above.  These factors include the increase innon-interest expenses due to the continued internal growth of the Company andthe acquisitions made during the year. Non-interest expense for the year ending December 31, 2006 was$13.6 million, an increase of $4.8 million or 54.6%.  In addition, the Company reported a provisionfor income taxes of $1.1 million for the year ended 2006 as compared to a taxbenefit of ($710,000) for the year of 2005.

 

**Net Interest Income and Net Interest Margin**

 

The Company’s net interest margin depends on the yields, volumes, andmix of its earning asset components as compared to the rates, volume and mix ofvarious funding sources.  The Company’snet interest margin is its net interest income expressed as a percentage ofaverage earning assets.  The AverageBalances and Rates Table, (see Appendix 1), reflects the Company’s averagebalance sheet volumes of assets, liabilities, and stockholders equity; theamount of associated interest income or interest expense; net interest income;the average rate or yield for each category of interest earning asset orinterest bearing liability; and the net interest margin for the periods noted.

 

**Rate/Volume Analysis**

 

Net interest income can be evaluated from the perspective of relativedollars of change in each period. Interest income and interest expense, which are the components of netinterest income are shown in Appendix 2 on the basis of the amount of anyincreases (or decreases) attributable to changes in the dollar levels of theCompany’s interest-earning assets and interest-bearing liabilities (“Volume”) andthe yields earned and rates paid on such assets and liabilities (“Rate”).  The change in interest income and interestexpense attributable to changes in both volume and rate has been allocatedproportionately to the change due to volume and the change due to rate.

 

**2008 Over 2007**

 

Net interest income before the provision for loan losses for the yearended December 31, 2008 was $19.3 million, as compared to $22.2 millionfor the same period in 2007.  Thisrepresents a decrease of $2.9 million or 13.0%. Both a decrease in average earning assets and a decrease in the netinterest margin contributed to the decrease in net interest income.  Net interest income is the difference betweenthe interest income and fees earned on loans and investments, and the interestexpense paid on deposits and other borrowings. The Company’s net interest margin is the net interest income expressedas a percentage of average earning assets. The margins for 2008, 2007, and 2006 are reflected in Appendix 1, whichshows the interest rates earned on loans and investments, and rates paid ondeposits and interest bearing liabilities.

 

Interest income for the year ended December 31, 2008 decreased to$36.8 million from $45.2 million for the year ended December 31,2007.  This was due to the decrease inboth average earning assets and the yield earned on average earning assetsduring the year.  Average earning assetsdecreased $23.6 million to $563.2 million for the year ended December 31,2008 from $586.8 million for the year ended December 31, 2007.  Contributing to this decrease was the $40.4million reduction in average real estate construction loans reflecting thegeneral decline in economic conditions in the Company’s markets.  The yield earned on average earning assetsdecreased 116 basis points to 6.54% for the year ended December 31, 2008from

 

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7.70% for the year ended December 31, 2007.  The yield earned on real estate constructionand commercial loans decreased by 258 basis points and 215 basis points,respectively, during the year ended December 31, 2008.  The decline in the yield on average earningassets during 2008 was primarily due to the overall lower interest rateenvironment in response to the Federal Open Market Committee’s (FOMC) decreasesin the Federal funds rate and the increased level of non-accrual loans.  Since December 31, 2007, the prime ratehas decreased a total of 400 basis points resulting in a steady decline inshort-term interest rates.  Foregoneinterest income on non-performing assets for the year ended December 31,2008 was approximately $1.8 million compared to $407,435 for the year ended December 31,2007.  The mix of the major components ofaverage earning assets stayed constant for the year ended December 31,2008 compared to the year ended December 31, 2007 with total averageinvestments and total average loans at 18.5% and 81.5%, respectively, ofaverage earning assets for both periods.

 

Interest expense for the year ended December 31, 2008 decreased to$17.5 million from $23.0 million for the year ended December 31,2007.  This decrease was primarily due tothe decrease in the rates paid on average interest bearing liabilities.  The rates paid on average interest bearingliabilities declined 106 basis points to 3.57% for the year ended December 31,2008 from 4.63% for the year ended December 31, 2007.  As with the decline in the yield on averageearning assets, the decline in the rates paid on average interest bearingliabilities was primarily due to the overall lower interest rate environment inresponse to the FOMC decreases in the federal funds rate.  The change in the mix of average interestbearing liabilities also had an impact on the Company’s interest expense.  The Company increased its use of short termaverage borrowed funds to $58.7 million for the year ended December 31,2008 compared to $35.9 million for the year ended December 31, 2007.  Given the state of the financial marketsduring 2008, short term borrowings were less costly than interest bearingdeposits.  The Company allowed high costexchange deposits to run-off which caused average savings accounts to decreaseby $45.4 million to $27.7 million for the year ended December 31, 2008when compared to the year ended December 31, 2007.

 

As a result of the foregoing analyses, the Company’s net interestmargin decreased for the year ended December 31, 2008 to 3.43% compared to3.79% for the year ended December 31, 2007.

 

**2007 Over 2006**

 

Net interest income before the provision for loan losses for the yearended December 31, 2007 was $22 million, as compared to $16 million forthe same period in 2006.  Thisrepresented an increase of $6 million or about 27%.

 

During the years ended December 31, 2005 through 2007, the Company’snet interest margin had been impacted by three over-riding conditions.  The first was the continued rising interestrate environment during 2005 and 2006 brought about the actions of the FederalOpen Market Committee. The second was the continued improving general economicconditions of the local and regional markets in 2005 and 2006 with anincreasing deterioration in these markets during the latter half of 2007.  The third over-riding condition was thecontinuing extremely competitive loan and deposit pricing by the major banks inthe Company’s markets.  As a result, theCompany’s net interest margin was 3.79%, and its interest rate spread was 3.07%for the year ended December 31, 2007, compared with 3.74% and 3.05%,respectively, for 2006.

 

The Company’s 4.36% earnings rate on its investment portfolio for theyear ended December 31, 2007, as compared to 4.30% and 3.37% for the sameperiods in 2006 and 2005, respectively, was an increase of six basis pointsover 2006 or 1.4%.  This earnings ratewas favorably impacted by the increasing rate environment coupled with currentperiod purchases and heavy refinancing in the mortgage backed portfolio.

 

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The Company used an effective tax rate of 37% when calculating the taxequivalent yield of its state, county, and municipal investment portfolio. Thiswas the same factor that was used in 2006; however, 34% was used forcalculations during the year of 2005. Approximately $21.4 million of the investment portfolio was comprised oftax exempt investments which was an increase of $6.8 million from the prioryear.

 

The Company’s rates earned on its loan portfolio during 2007 increasedfour basis points to 8.46% or an increase less than 1%.  The significant increase in average loansoutstanding was the primary contributor to the increase in loan interest incomeduring 2007.  While the prime ratedecreased three times from 8.25% to 7.25% during 2007, the weighted averageprime rate increased nine basis points during 2007 when compared to 2006.  This resulted in the overall earning rate of8.46% for the year ended December 31, 2007, a four basis point improvementfrom the 8.42% rate earned for the year ended December 31, 2006 and a onehundred and twenty seven basis point increase from the 7.19% earnings rate forthe year ended December 31, 2005. As a result of the foregoing, the Company’s gross interest earningsasset rate for the year ended December 31, 2007 was 7.70%, as compared to7.27% for the same period of 2006, and 6.10% for 2005.

 

Interest expense for 2007, 2006 and 2005 was impacted by the escalatingshort-term interest rate environment previously noted, and competitivepressures in our local markets.  Thiscaused the Company’s interest paid rate on all interest bearing liabilities tobe 4.63% for the year ended December 31, 2007 as compared to 4.22% for thesame period in 2006, and 3.23% for 2005. The Company’s overall net interestmargin increased to 3.79% for the year ended December 31, 2007 as comparedto 3.74% for the same period in 2006, and 3.49% for 2005.

 

Actual earning rates increased on the Company’s investments and loanportfolios over the year ended December 31, 2007 when compared to the sameperiod in 2006; the change in asset mix combined with significant volumeincreases on total earning assets resulted in the most impact on interest income.  As a result, the Company’s yield on totalearning assets increased by 43 basis points during the year ended December 31,2007 when compared to the same period of 2006, and 117 basis points during theyear ended December 31, 2006 when compared to the same period in2005.   In contrast, interest bearingliabilities also had significant volume increases combined with liability mixchanges which had an impact on net interest income.  The cost of interest bearing liabilitiesincreased by 41 basis points during the year ended December 31, 2007 whencompared to 2006, and 99 basis points during the year ended December 31,2006 when compared with 2005.

 

The Changes in Net Interest Income Table (see Appendix 2) presentsinformation regarding interest income and interest expense for each majorcategory of interest-earning assets and interest-bearing liabilities.  The table sets forth changes in interestincome and expense attributable to changes in average balances (volume) orchanges in average interest rates (rates). The calculation is as follows:  (i) changesin rate (changes in rate multiplied by prior year volume), (ii) change involume (change in volume multiplied by prior year rate) and (iii) changesin both rate and volume (change in rate multiplied by change in volume).  Changes in interest income and expense thatare not due solely to volume or rate changes are combined with the rate/volumechange category.

 

Rate and rate/volume changes combined are shown to have brought about adecline of $1.2 million in net interest income for the year ended December 31,2007, as compared to the same period of 2006 which had an approximately neutralposition.  While the rate and rate/volumeeffect is negative, this was more than six times completely offset by increasesin net interest income due to volume changes. Total interest income on a volume basis substantially overshadowed therate and rate/volume effects and accordingly net interest income rose by $6.3million over the period due to positive variances in loan portfolio volumes.

 

The Company’s net interest margin was also impacted by changes in themix of interest earning assets and interest bearing liabilities, as well as bychanges in the relative level of non - earning assets (including cash and duefrom banks). The relative percentage of interest earning assets to interestbearing liabilities remained essentially unchanged in 2007 as compared to2006.  For the years ended December 31,2007 and 2006 net interest income increases were related solely to volume increases.

 

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For the twelve months ended December 31, 2007 the average yield onthe investment portfolio was 4.36%, while the average yield on the loanportfolio was 8.46% for a combined weighted yield of 7.70% on $587 million ofaverage earning assets.

 

For the same period, the interest costs on deposit liabilities was4.42% and 6.05% on other interest bearing liabilities, for a combined weightedaverage cost of 4.63% on $496 million of total average interest bearingliabilities.

 

**2006 over 2005**

 

Net interest income before the provision for loan losses for the yearended December 31, 2006 was $16 million, as compared to $9.8 million forthe same period in 2005.  Thisrepresented an increase of $6.2 million or about 63%.  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 margin is the net interest income expressedas a percentage of earning assts.

 

The Company’s net interest margin was impacted by three over-ridingconditions.  The first was the continuedrising interest rate environment of the last year or so brought about theactions of the Federal Open Market Committee, the second was the continuedimproving general economic conditions of the local and regional markets, andthe third was the continuing extremely competitive loan and deposit pricing ofthe major banks in the Company’s market. As a result, the Company’s net interest margin was 3.74%, and itsinterest rate spread was 3.05% for the year ended December 31, 2006.

 

The Company’s 4.30% earnings rate on its investment portfolio for theyear ended December 31, 2006 as compared to 3.37% for the same period in2005, was an increase of 93 basis points over 2005 or 27.6%.  This earnings rate was favorably impacted bythe increasing rate environment coupled with current period purchases, heavyrefinancing in the mortgage backed portfolio, and the rising interest rates onliquid overnight funds sold on a daily basis.

 

The Company used an effective tax rate of 37% in calculating the taxequivalent yield of its state, county, and municipal investment portfolio.  Approximately $14.6 million of the investmentportfolio was comprised of tax exempt investments which was an increase of$13.2 million from the prior year.

 

The Company’s rates earned on its loan portfolio over the same periodsincreased 123 basis points to 8.42% or an increase of about 17%.  The significant increase in loans outstandingand the change in asset mix contributed to the increase in loan interest incomeover the periods under review.  While theprime rate rose five times from 7.0% to 8.25% during 2005, the overall earningsrate of 8.42% for the year ended December 31, 2006 was noticeably improvedfrom the 7.19% rate earned for the year ended December 31, 2005.

 

As a result of the foregoing, the Company’s gross interest earningassets rate for the year ended December 31, 2006 was 7.27%, as compared to6.10% for the same period of 2005.

 

Interest expense for 2006 and 2005 was impacted by the escalatingshort-term interest rate environment previously noted, and the Company’sinterest paid rate on all interest bearing liabilities was 4.22% for the yearended December 31, 2006 as compared to 3.23% for the same period in 2005.The Company’s overall net interest margin increased to 3.74% for the year endedDecember 31, 2006 as compared to 3.49% for the same period in 2005.

 

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Although actual earning rates increased on the Company’s investmentsand loan portfolios over the year ended December 31, 2006 when compared tothe same period in 2005, the change in asset mix combined with significantvolume increases on total earning assets resulted in the greatest change ininterest income.  As a result, theCompany’s net interest margin increased by 25 basis points during the yearended December 31, 2006 when compared to the same period of 2005.

 

Rate/volume changes are shown to have brought about the decline of $1.2million in net interest income for the year ended December 31, 2006relative to the same period of 2005. While the rate/volume effect is negative, this was substantially offsetby increases in net interest income due to rate changes.  Total interest income on a volume basis wasfive times the magnitude of the rate and rate/volume effects and accordinglynet interest income rose by $6.1 million over the period due to positivevariances in loan and investment portfolio volumes.

 

The Company’s net interest margin was also impacted by changes in themix of interest earning assets and interest bearing liabilities, as well as bychanges in the relative level of non - earning assets (including cash and duefrom banks). The relative mix of interest earning assets to interest bearingliabilities remained essentially unchanged in 2006 as compared to 2005.  Changes in the volume mix and rising rateshad a positive impact on the weighted average yield on net interest spread.

 

For the twelve months ended December 31, 2006 the average yield onthe investment portfolio was 4.30%, while the average yield on the loanportfolio was 8.42% for a combined weighted yield of 7.27% on $427 million ofaverage earning assets.

 

For the same period, the interest costs on deposit liabilities was4.08% and 5.21% on other interest bearing liabilities for a combined weightedaverage cost of 4.22% on $358 million of total average interest bearingliabilities.

 

**Non–Interest Income and Non–Interest Expense**

 

**2008 Over 2007**

 

**Non-Interest Income Overview:**

 

Total non-interest income decreased by $16.7 million for the year endedDecember 31, 2008.  During 2008, theCompany incurred a $13.5 million loss associated with impairment on investmentsecurities.  Exclusive of the impairmentcharges on investment securities and the realized and unrealized investment andasset gains and losses, non-interest income declined only $63,000 to $1.3million.  This is after substantialreductions in the number of 1031 QI transactions and the resultant loss of feeincome.  Please refer to Non-InterestIncome and Non-Interest Expense Table Appendix 3 for additional specificinformation.

 

**Non-Interest Expense Overview:**

 

For the year ended December 31, 2008, non-interest expenses were$44.4 million, inclusive of a $26.9 million goodwill impairment.  Excluding the impact of the goodwillimpairment charge, non-interest expenses were $17.5 million for the year ended December 31,2008, a decrease of $808,000, or 4.4%, compared to 2007 at $18.3 million and$13.6 million for 2006, respectively.  Asa percentage of average earning assets, total non-interest expenses were 7.89%(3.11% excluding the goodwill impairment charge) and 3.12% for the years ended December 31,2008 and 2007, respectively, and 3.18% for 2006.  The decreases in non-interest expense (excludingthe goodwill impairment charge) for the year ended December 31, 2008compared to 2007 include decreases of $421,000 in other expenses, reductions of$337,000 in advertising and marketing costs, $166,000 in other professionalservices, $132,000 in travel and education costs and $109,000 in stationary andsupplies.  These decreases were partiallyoffset by the $517,000 increase in loan servicing costs, which includes$203,000 in other real estate owned expenses.

 

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The Company’s efficiency ratio is varied forthe periods under review due to the Company’s substantial charges forimpairments during 2008.  The efficiencyratio represents total non-interest expense divided by the sum of net interestincome and total non-interest income. Neither the provision for loan losses nor realized securities gains orlosses is factored into the equation. The Company’s efficiency ratio for 2008was 228.3% as compared to 77.5% for the twelve months ended December 31,2007 versus 77.2% for the same period of 2006, and 83.4% for 2005.  Generally, while management was able tomaintain a relatively constant non-interest expense to average earning assetsratio prior to this year, management was unable to stem the reductions innon-interest income in the short run due to adverse money market conditions andreductions in new loan growth with associated fees and 1031fee income.  Generally speaking, a company’s efficiencyratio rises prior to growth spurts as increases are felt in staffing levels,geographic dispersion of operating units, and volumes of businessactivity.  Further, it is expected thatthis ratio falls as resources are placed into perceived “highest and best”use.  Looking towards 2009, theefficiency ratio should show a substantial reduction and is likely to be morein line with periods reported prior to 2008.

 

**Non-interest income:**

Included in non-interest income was $617,000 in service charges ondeposit accounts for the year ended December 31, 2008, while the amountfor the twelve months ended December 31, 2007 was $425,000 and $261,000for 2006.  The increase in 2008 wasprimarily due to increases in account analysis charges and non-sufficient fundsfees, and electronic banking services made available to customers.

 

Other service charges, commissions and fees are primarily comprised ofsafe deposit, referral income and other miscellaneous fees for all periodsunder review. These fees decreased $7,000 to $45,000 for the twelve monthsended December 31, 2008 versus $52,000 for the same period in 2007, and$19,000 for 2006.

 

Loan documentation fees and other loan charges decreased to $195,000for the year ended December 31, 2008 as compared to $292,000 and $162,000for the same periods in 2007 and 2006, respectively.  With the slowing economy and a lesser volumeof new loan growth, these fees and other loan charges declined during 2008.

 

Pre-underwriting fees are a result of agreements with third partieswhereby the Company performs certain pre-underwriting activities on SBA loans,which are funded by the third party. These activities are primarily conducted in the Roseville, California office.  This activity may contribute some additionalloan volumes to the Company and provide additional sources of income based onsales of government guaranteed loans to financial intermediaries.  No absolute assurance can be given, however,that this will in fact, occur.  Nopre-underwriting fees were earned in 2008 when compared to $26,000 and $9,000earned for the periods ending December 31, 2007 and 2006, respectively.

 

Increases in the cash surrender value of bank owned life insuranceamounted to $360,000 for the year ended December 31, 2008, compared to$393,000 for the same period in 2007 and $307,000 for 2006.  With continued pressure in insurance companyearnings due to disruptions in rates and values of their underlying assetportfolios, we have been made aware that these earnings are likely to be lesserduring 2009 as well.

 

Exchange fee income is the result of agreements with investors wherebythe qualified intermediaries perform activities pursuant to IRS code 1031,which allows investors to defer taxes on the exchange of investment property.  The Company earned $82,000, $163,000 and$448,000 in exchange fee income for the years ending December 31, 2008,2007 and 2006, respectively.  Thedecreases for 2008 and 2007 are primarily due to the downturn in real estaterelated activity in all of the Company’s markets.

 

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The Company has liquidated its previously held trading portfolio.  Realized and unrealized gains and losses arerecorded in non-interest income.  Due tothe decline in the financial markets during 2008, the Company incurred a nettrading loss of $997,000 for the year ended December 31, 2008 compared toa net trading gain of $118,000 in 2007 and $443,000 in 2006.

 

As of January 1, 2007, the Company adopted FAS 159 *Fair Value Option for Financial Assets and Financial Liabilities*andFAS 157 *Fair Value Measurements*.  The Company applied FAS 159 to certainUSDA/SBA loans that were acquired in late 2003 and early 2004.  Unrealized gains and losses on these fairvalue loans are recorded in non-interest income.  For the year ended December 31, 2008,the Company had $10,000 in unrealized gains on these loans compared to $77,000in unrealized losses for the year ended December 31, 2007 and nounrealized gains or losses for the year ended December 31, 2006.  During 2007, the Company recorded $5,000 ofrealized gains on the sale of such loans. There were no realized gains or losses in 2008 and 2006.

 

Non-interest income for the year ended December 31, 2008 includedsales transactions of other real estate owned, fixed assets and investmentsecurities.  Loss on the sale of otherreal estate owned was $194,000 for the year ended December 31, 2008.  This loss was due to the severe declines inreal estate values in the Company’s market areas.  There were no sales of other real estateowned in 2007 and 2006.  The Company hada net loss on the disposition of fixed assets of $57,000 for the year ended December 31,2008 compared to a net gain on the sale of fixed assets of $11,000 and $2,000for the years ended December 31, 2007 and 2006, respectively.  Due to the price declines in the securitiesmarket environment in 2008, the Company incurred a $1.9 million loss on thesale of investment securities for the year ended December 31, 2008.  The company realized gains of $3,000 and$31,000 for the years ended December 31, 2007 and 2006, respectively.

 

During 2008, the Company incurred impairment charges on investmentsecurities of $13.5 million.  See “InvestmentPortfolio” in the Balance Sheet Analysis section of this report for additionalinformation on these impairments.

 

**Non-interest expense:**

The $73,000 decrease in salaries and employee benefits was primarilydue to lower average staffing levels for the year ended December 31, 2008compared to the year ended December 31, 2007.  Base salary expense decreased $575,000, or 7.4%,during 2008 compared to 2007.  At December 31,2008, the Company had 99 employees compared to 124 employees at December 31,2007.  Salaries and employee benefitsexpense was also positively impacted by a decrease of $148,000 in share-basedcompensation expense.  These decreases inexpenses were unfortunately, more than offset by an increase of $195,000 ingroup insurance expense and a $410,000 decrease in FAS 91 deferred salaryexpense associated with a decline in new loan originations during 2008.

 

Occupancy costs remained flat at $2.7 million for the years ended December 31,2008 and 2007.  For the year ended December 31,2008, occupancy costs represented 15.7 % of total non-interest expense(excluding the goodwill impairment charge) and 0.49% of average earningassets.  For the year ended December 31,2007, occupancy costs represented 14.8% of total non-interest expense and 0.46%of average earning assets.

 

Advertising and marketing costs decreased $337,000, or 38.9%, for theyear ended December 31, 2008 compared to the year ended December 31,2007.  This decrease was primarily due tothe Company’s increased attention to operating efficiencies during 2008.

 

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Loan servicing costs increased $517,000 to $580,000 for the year ended December 31,2008.  This increase was due to increasesin other real estate owned expenses.  Asthe economy deteriorated during 2008, the Company’s holdings of other realestate owned increased to $2.2 million at December 31, 2008 from $800,000at December 31, 2007.

 

Other professional services decreased $166,000 for the year ended December 31,2008 compared to 2007 mainly as a result of a reduction in consulting feesassociated with Sarbanes-Oxley activities.

 

Travel and education costs and stationary andsupplies decreased by $132,000 and $109,000, respectively, for the year ended December 31,2008 compared to 2007.  Reductions inthese expenses were primarily due to the Company’s increased attention tooperating efficiencies during 2008.

 

Other expenses decreased by $865,000 to $601,000 for the year ended December 31,2008 due to recapture of earlier sundry losses, as well as our heightenedattention to the reduction of all non-interest expense categories.

 

The remainder of expenses which were not separately noted totaled $3.2million and $3.4 million for the year ended December 31, 2008 and 2007,respectively, a decrease of $200,000, or 5.9%.

 

In Appendix 3, each of certain other non-interest expense categoriesare shown with their related percentage of overall non-interest expense, sothat one may view their contribution to the overall cost structure of theCompany. Further, the Company’s efficiency ratio is also noted.

 

**2007 Over 2006**

 

**Non-Interest Income Overview:**

 

The Company’s results reflected a lower level of non-interest income inthe year ended December 31, 2007 than that ended December 31,2006.  Please refer to Non-InterestIncome and Non-Interest Expense Table Appendix 3 for additional specificinformation.  The overall ratio ofnon-interest income to average earning assets decreased to 0.24% from 0.39% forthe year ended December 31, 2007 as compared to 2006, and 0.27% for 2005.

 

**Non-Interest Expense Overview:**

 

Total non-interest expenses increased to $18.3 million in the yearended December 31, 2007 from $13.6 million in the period ended December 31,2006 and $8.8 million for the year ended December 31, 2005.  As a percentage of average earning assets,total non-interest expenses were 3.12% and 3.18% for the years ended December 31,2007 and 2006, respectively, and 3.14% for 2005.  The dollar increase of approximately 35% forthe year 2007 as compared to 2006; the 55% increase for 2006 over 2005reflected the continued additions to staff, offices, and data processingcapabilities over time, as the Bank continued its expansion in both northernNevada and northern California over the periods under review.

 

The Company’s efficiency ratio was varied for the periods under reviewdue to the Company’s substantial growth, as well as the variability innon-interest income.  The efficiencyratio represents total non-interest expense divided by the sum of net interestincome and total non-interest income. Neither the provision for loan losses, nor realized securities gains orlosses, is factored into the equation. The Company’s efficiency ratio was 77.5%for the twelve months ended December 31, 2007 versus 77.2% for the sameperiod of 2006, and 83.4% for 2005. Generally, while management was able to maintain a relatively constantnon-interest expense to average earning assets ratio, it was unable to stem thereductions in non-interest income in the short run due to adverse money marketconditions.

 

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**Non-interest income:**

 

Included in non-interest income was $425,000 in service charges ondeposit accounts for the year ended December 31, 2007 which represented30.7% of consolidated non-interest income. The amount for the twelve months ended December 31, 2006 was$261,000 or 15.5%, and $253,000 or 32.8% for 2005.  Other service charges, commissions and feesare primarily comprised of safe deposit, referral income and othermiscellaneous fees for all periods under review. These fees increased $33,000to $52,000 for the twelve months ended December 31, 2007 versus $19,000for the same period in 2006, and $23,000 for 2005.

 

Loan documentation fees and other loan charges increased to $292,000for the year ended December 31, 2007 as compared to $162,000 and $95,000for the same periods in 2006 and 2005, respectively.

 

Pre-underwriting fees are a result of agreements with third partieswhereby the Company performs certain pre-underwriting activities on SBA loanswhich are funded by the third party. These activities are primarily conducted in the Roseville, Californiaoffice.  No absolute assurance can begiven, however, that this will in fact, occur. Pre-underwriting fees for the periods under review were $26,000 and$9,000 for the periods ending December 31, 2007 and 2006, respectively,and $25,000 for 2005.

 

Increases in the cash surrender value of bank owned life insuranceamounted to $393,000 for the year ended December 31, 2007, compared to$307,000 for the same period in 2006 and $313,000 for 2005.

 

Exchange fee income is the result of agreements with investors wherebythe qualified intermediaries perform activities pursuant to IRS code 1031 whichallows investors to defer taxes on the exchange of investment property.  The Company earned $163,000 in exchange feeincome for the year ending December 31, 2007 a decrease of $285,000 andsuch income represented 11.5% of consolidated non-interest income, compared to$448,000 representing 26.6% of non-interest income for 2006.  There was no such income in prior years.  The decrease for 2007 primarily relates tothe downturn in real estate related activity in all markets, which declinedprecipitously in the third quarter of the year.

 

The Company has an equity portfolio which is held as a tradingaccount.  Realized and unrealized gainsand losses are recorded in non-interest income. For the year ended December 31, 2007, the Company had an unrealizedgain of $118,000 and $443,000 for the years ended December 31, 2007 and2006, respectively.

 

As of January 1, 2007 the Company adopted FAS 159 *Fair Value Option for Financial Assets and Financial Liabilities*andFAS 157 *Fair Value Measurements*.  The Company applied FAS 159 to certainUSDA/SBA loans that were acquired in late 2003 and early 2004.  Unrealized gains and losses on these fairvalue loans are recorded in non-interest income.  For the year ending December 31, 2007,the Company had $77,000 of unrealized losses on its fair value USDA/SBA loanportfolio.  In addition, the Company alsorecorded $5,000 of gains on the sale of such loans for the year ending December 31,2007.  There was no such activity in anyof the prior periods.

 

The total amount of non-interest income for the year ended December 31,2007 included sales transactions of securities and other assets.  Net gains on the sale of securities amountedto $3,000 for the year ended December 31, 2007 as compared to net gains of$31,000 for the same period in 2006 and net gains of $12,000 for 2005.  In addition, the Company had a net gain onthe sale of fixed assets of $11,000 for the year ending December 31, 2007as compared to $2,000 and $4,000 for the years ending 2006 and 2005,respectively.

 

**Non-interest expense**

The largest increase for any specific category of expenses was insalaries and employee benefits, which were $1.9 million or 25.6% higher in theyear ended December 31, 2007 when compared to the same period of 2006, and$3.4 million or 80.4% higher in 2006 than 2005. Personnel costs approximated 52% of total non-interest expense and 1.6%of average earning assets during 2007 as compared to 56% and 1.8%, respectively,for 2006, and 48% and 1.5% respectively, for 2005.  This primarily reflected the Company’saddition of three office locations with the addition of Northern Nevada Bank inNovember 2006, and the new Rancho Cordova office during 2007.

 

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The second greatest increase in non-interest expenses was in occupancycosts for the Company.  Occupancy costsamounted to $2.7 million as of December 31, 2007 as compared with $1.9million at December 31, 2006 and $1.5 million for 2005.  This was due to four additional locationsbeing added for the year, and normal increases in lease costs.  Total occupancy costs increased approximately$788,000 or 41.0% and represented 14.8% of total non-interest expense and 0.46%of average earning assets as of December 31, 2007.  This compares with the increase of 2006 over2005 in the amount of $389,000 or 25.4% and costs, which represented 14.1% oftotal non-interest expense and 0.45% of average earnings assets as of December 31,2006.  In consideration of the delays inobtaining a permanent location for the Bank’s Spanish Springs (Sparks) branchand the downturn in the economy, the Company decided to close the temporarySpanish Springs (Sparks) branch effective March 31, 2008.

 

The third largest increase in non-interest expenses was in depositservicing costs which increased $641,000 or 139.7% to $1.1 million for the yearending December 31, 2007 as compared with $459,000 outstanding for thesame period in 2006.  The 2007 increaseincludes core and non-core deposit intangible amortization of $480,000.  Deposit service costs were 6.0% and 0.19% ofnon-interest expenses and average earning assets, respectively for the yearended December 31, 2007.  The samecosts were 3.4% and 0.11%, respectively for the year ended in 2006.  These increases were largely due to theincrease in offices at the acquisition of Northern Nevada Bank.

 

The fourth largest increase in non-interest expense was in accounting,legal and other professional services. These expenses combined increased a total of $928,000 to $1.5 millionfor the year ended December 31, 2007. These costs were 8.2% of non-interest expense and 0.26% of averageassets for the year ending in 2007.  Thiscompares to $570,000 for the year ending in 2006 which was 4.2% of non-interestexpense for the same period.  Internal auditing,external auditing and tax expenses were $713,000, legal costs were $258,000 andother professional service costs were $527,000 for the year ended December 31,2007 as compared with $251,000, $120,000 and $199,000, respectively, for thesame period ending December 31, 2006. The increases in these costs were directly related to the growth of theCompany, regulatory mandates for increased internal audit reviews, and theimplementation of SOX 404 requirements.

 

The remaining non-interest expenses increased $419,000 for the yearended December 31, 2007 to $3.4 million as compared to $3.0 million forthe same period in 2006.  These remainingexpenses represented 0.59% of average assets for the year ended December 31,2007 as compared to 0.70% for the same period in 2006.

 

In Appendix 3, each of certain other non-interest expense categoriesare shown with their related percentage of overall non-interest expense, sothat one may view their contribution to the overall cost structure of thecompany. Further, the Company’s efficiency ratio is noted, as was explainedabove.

 

**2006 over 2005**

 

**Non-Interest Income Overview:**

 

The Company’s results reflected a higher level of non-interest incomein the year ended December 31, 2006 than that ended December 31,2005.  The overall ratio of non-interestincome to average earning assets increased to 0.39% from 0.27% for the yearended December 31, 2006 as compared to 2005.  The “1031” company acquisitions contributed$448,000 or 27% of non-interest income which was unavailable in previousperiods.

 

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**Non-Interest Expense Overview:**

 

Total non-interest expenses increased to $13.6 million in the yearended December 31, 2006 from $8.8 million in the period ended December 31,2005.  As a percentage of average earningassets, total non-interest expenses were 3.18% and 3.14% for the years ended December 31,2006 and 2005, respectively.  Theincrease of approximately 54% for the year 2006 as compared to 2005 reflects thesubstantial additions to staff, offices, and data processing capabilities, asthe Bank continued its expansion in both northern Nevada and northernCalifornia over the periods under review. Both geographic centers continued to grow as the Company solidified itsposition in these two markets.

 

The Company’s efficiency ratio for all the periods under reviewdeclined due to the Company’s substantial growth, with the increase innon-interest income.  The Company’sefficiency ratio was 77.2% for the twelve months ended December 31, 2006versus 83.4% for the same period of 2005.

 

**Non-interest income:**

Included in the increase in non-interest income was $261,000 in servicecharges on deposit accounts for the year ended December 31, 2006 whichrepresented 15.5% of consolidated non-interest income, while the amount for thetwelve months ended December 31, 2005 was $253,000 or 32.8%,respectively.  The 2006 increase wasimpacted by a reduction in wire transfer fees of $24,000 compared to the yearending 2005.  Other service charges,commissions and fees are primarily comprised of safe deposit, referral incomeand other miscellaneous fees, for all periods under review. These feesdecreased $4,000 to $19,000 for the twelve months ended December 31, 2006versus $23,000 for the same period in 2005.

 

Loan documentation fees and other loan charges increased to $162,000for the year ended December 31, 2006 compared to $95,000 for the sameperiod in 2005.

 

Pre-underwriting fees are a result of agreements with third parties wherebythe Company performs certain pre-underwriting activities on SBA loans which arefunded by the third party.  Theseactivities were primarily conducted in the Roseville, California office.  Pre-underwriting fees for the periods underreview decreased to $9,000 from $25,000 for the periods ending December 31,2006 and 2005, respectively.

 

Increases in the cash surrender value of bank owned life insuranceamounted to $307,000 for the year ended December 31, 2006, compared to$313,000 for the same period in 2005.

 

Exchange fee income is the result of agreements with investors wherebythe qualified intermediaries perform activities pursuant to the IRS code 1031which allows investors to defer taxes on the exchange of investment property.  The Company earned $448,000 in exchange feeincome for the year ending December 31, 2006 and such income represented26.6% of consolidated non-interest income; no such income was recorded in prioryears.

 

The Company has an equity portfolio which is held as a trading account.  Unrealized gains and losses are recorded innon-interest income.  The amount of nettrading income was $443,000 for the year ending December 31, 2006, andrepresented 26.3% of consolidated non-interest income as compared to $47,000and 6.1% for the same period in 2005.

 

The total amount of non-interest income for the year ended December 31,2006 was somewhat impacted by the transactions taken on sale ofsecurities.  Net gains on the sale ofsecurities amounted to $31,000 for the year ended December 31, 2006, ascompared to net gains of $12,000 for the same period in 2005.  In addition the Company had a net gain on thesale of fixed assets of $2,000 for the year ending December 31, 2006, ascompared to $4,000 for the year ending 2005.

 

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**Non-interest expense**

The largest increase for any specific category of expenses was insalaries and employee benefits, which were $3.4 million or 80.4% higher in theyear ended December 31, 2006 than for the same period of 2005.  Personnel costs approximated 56% of totalnon-interest expense and 1.8% of average earning assets during 2006 as comparedto 48% and 1.5%, respectively, for 2005. This reflects the Company’s addition of experienced professional staffduring all three periods as it aligned its staffing levels to business planrequirements.

 

The second greatest increase in non-interest expenses was occupancycosts for the Company.  Occupancy costsamounted to $1.9 million as of December 31, 2006 as compared with $1.5million at December 31, 2005.  Thiswas due to increased branch locations and normal cost of living increases inlease costs.  Total occupancy costsincreased approximately $389,000 or 25.4% and represented 14.1% of totalnon-interest expense and 0.45% of average earning assets as of December 31,2006.  This compares with the increase of2005 over 2004 in the amount of $202,000 or 15.2% and costs which represented17.4% of total non-interest expense and 0.54% of average earnings assets as of December 31,2005.

 

The third greatest increase in non-interest expenses was dataprocessing costs for the Company.  Dataprocessing costs amounted to $960,000 as of December 31, 2006 as comparedwith $733,000 at December 31, 2005. This was due to increased branch locations, upgrades to the Company’s ITinfrastructure and web-sites as well as third party processing systemupgrades.  Total data processing costsincreased approximately $227,000 or 31.0% and represented 7.1% of totalnon-interest expense and 0.23% of average earning assets as of December 31,2006.  This compares with the increase of2005 over 2004 in the amount of $364,000 or 98.6% and costs which represented8.3% of total non-interest expense and 0.26% of average earnings assets as of December 31,2005.  As a result of the Company’sorientation towards being an integrated data provider, telephone and datacommunication costs have been higher than one might anticipate in a localcommunity institution.  With eightoffices in Nevada, two in California and one in Montana all inter-connected toour data center which provides on-line capabilities, the Company’scommunication costs have not been unexpected. Based on the technology supportedfocus of the Company, it is expected that this higher cost area is likely tocontinue into the future.

 

The fourth largest increase in non-interest expenses was in depositservice costs which increased $200,000 or 77.2% to $459,000 for the year endingDecember 31, 2006 as compared with $259,000 outstanding for the sameperiod in 2005.  Deposit service costswere 3.4% and 0.11% of non-interest expenses and average earning assets,respectively for the year ended December 31, 2006.  The same costs were 2.9% and 0.09% for theyear ended in 2005.  These increases werelargely necessitated by the increase in offices and growth of customer accountsin the Company.

 

**Provision for Loan Losses**

 

Credit risk is inherent in the business of making loans.  The Company sets aside an allowance forprobable loan losses through periodic charges to earnings, which are reflectedin the income statement as the provision for loan losses.  Specifically, the provision for loan lossesrepresents the amount charged against current period earnings to achieve anallowance for loan losses that in management’s judgment is adequate to absorblosses inherent in the Bank’s loan portfolio. The loan and lease loss provisionis determined by conducting a regular evaluation of the adequacy of the Company’sallowance for loan and lease losses and charging the difference, if any, to thecurrent month’s expense.  This has theeffect of creating volatility in the amount of charges to the Company’searnings, based on loan growth, the particular types of loan growth, collateralvalues, debt service coverage, and various other factors.  See Appendices 8 & 9 for informationregarding the activity in the Allowance for Loan Losses.  The provision is determined pursuant to aperiodic comprehensive analysis of the Company’s loan portfolio and itsallowance for loan losses, as described herein.

 

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**2008 over 2007 and 2006**

 

Forthe years ended December 31, 2008, 2007 and 2006, the Company’s provisionfor probable loan losses was $4 million, $3 million and $771,000,respectively.  The increase in thecurrent year provision compared to 2007 is due to the significant increase inthe Company’s non-performing loan balances. Non-performing loans increased by $23 million over 2007.  During 2008, economic conditions deterioratedin the primary markets served by the Company, as evidenced by an increase inunemployment, a reduction in the number of home sales and weak consumerconfidence.  The increase in theprovision for probable loan losses in 2007 was also due to deterioration inloan quality and an increase in non-performing asset balances.  The procedures for monitoring the adequacy ofthe allowance and detailed information on the allowance are included below in “Allowancefor Loan Losses”.

 

**Provision for Income Taxes**

 

TheCompany and its subsidiaries, with the exception of the two statutory trusts,file consolidated tax returns.  Forfinancial reporting purposes, income tax effects of transactions are recognizedin the year in which they enter into the determination of recorded income,regardless of when they are recognized for income tax purposes.

 

Incometax expense is the sum of two components: the current tax expense****or provision and the deferred tax****expense****or provision. Current tax expense is the result of applying the current tax rate totaxable income.

 

Thedeferred tax provision is intended to account for the fact that income on whichthe Company pays taxes in its returns differs from pre-tax income in theaccompanying Consolidated Statements of Income. Some items of income and expense are recognized in different years forincome tax purposes than in the financial statements.  For example, the Company is only permitted todeduct from Federal taxable income, actual net loan charge-offs, irrespectiveof the amount of provision for credit losses (bad credit expense) recognized inits financial statements.  This causeswhat is termed a temporary difference**.**  Eventually, as loans are charged-off, theCompany will be able to deduct for tax purposes what has already beenrecognized as an expense in the financial statements.  Another example is the accretion****of discount on certain securities.  Accretion is the recognition as interestincome of the excess of the par value of a security over its cost at the timeof purchase.  For its financial statements,the Company recognizes income as the discount related to these securities,which is accreted.  For its tax return,however, the Company can defer the recognition of that income until full parvalue is received at the maturity of the security.  The first example causes a deferred tax assetto be created because the Company has recognized as an expense for its currentfinancial statements an item that it will be able to deduct from its taxableincome in a future year’s tax return. The second example causes a deferred tax liability, because the Companyhas been able to delay until a subsequent year the paying of tax on an item ofcurrent year financial statement income.

 

Thereare some items of income and expense that create permanent differences.  Examples of permanent differences wouldinclude:

 

·                  tax-exempt income from municipal securitiesthat is recognized as interest income for the financial statements but neverincluded in taxable income; and

·                  a portion of meal and entertainment expensethat is recognized as an expense for the financial statements, but is neverdeductible in computing taxable income.

 

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Thesignificant items of income and expense that create permanent differences aredisclosed in the third table of NOTE 12 as amounts that cause a differencebetween the statutory Federal tax rate of 34% and the effective tax rate.** **The effective taxrate is the amount of the combined current and deferred tax expense divided bythe Company’s income or loss before taxes as reported in the ConsolidatedStatements of Income.

 

Theamounts of the deferred tax assets and liabilities are calculated bymultiplying the temporary differences by the current tax rate.  The Company measures all of its deferred taxassets and liabilities at the end of each year. The difference between the net asset or liability at the beginning ofthe year and the end of the year is the deferred tax provision for the year.

 

Mostof the Company’s temporary differences involve recognizing substantially moreexpenses in its financial statements than it has been allowed to deduct fortaxes in the return for the year.  Thisresults in a net deferred tax asset. Deferred tax assets are dependent forrealization on past taxes paid, against which they may be carried back, or onfuture taxable income, against which they may be offset.  If there were a question about the Company’sability to realize the benefit from the asset, then the Company would have torecord a valuation allowance against the asset to reflect the uncertainty.  Given the amount and nature of the Company’sdeferred assets, the past taxes paid, and the likelihood of future taxableincome, management believes realization is assured for the full amount of the netdeferred tax asset and no valuation allowance is needed.

 

Theamounts of the current expense and deferred benefit, the amounts of the variousdeferred tax assets and liabilities, and the tax effect of the principaltemporary differences between taxable income and pre-tax financial statementincome are shown in NOTE 12.

 

Includedin the reconciliation table is an item for state taxes.  In addition to the 34% Federal income taxincluded in tax expense, the Company pays a California franchise tax and certainMontana taxes, as well as Nevada taxes and fees.  These taxes and fees are equivalent to a taxon the Company’s income.  While theCalifornia franchise tax rate is almost 11%, the Company may deduct its statefranchise tax from its Federal taxable income. This reduces the effective tax rate for the state tax by 35%.  Montana financial institutions are subject toa corporation tax, which incorporates or is substantially similar to applicableprovisions of the Internal Revenue Code. The corporation tax is imposed on federal taxable income, subject tocertain adjustments.  State taxes areincurred at the rate of 6.75% in Montana. Nevada imposes no income tax;however, the Bank pays a 2% employment tax on salaries and benefits and pays anannual branch location fee of $7,000 per location.

 

**At December 31, 2008, theCompany had net operating loss carry-forwards in the amount of $11 million ascompared to December 31, 2007, when the Company had no net operating losscarry-forwards for federal income tax purposes. At December 31, 2006, the Company had approximately $217,000 ofoperating loss carry-forwards for federal income tax purposes.  The Company reported a net tax benefit of$7.0 million for the year ended December 31, 2008 as compared to arecorded $625,000 tax provision for the year ended December 31, 2007 and$1.1 million for the year ended December 31, 2006.  Refer to NOTE 12 of the financial statementsfor further discussion and analysis of the deferred tax assets.**

** **

**Financial Condition**

 

Total assets were $556 million at December 31, 2008, a decrease of$70.6 million, or 11.3%, from total assets of $626.6 million at December 31,2007.  Total assets decreased during 2008due to a $26.9 million write-off of goodwill, a $13.5 million impairment chargeagainst the value of investment securities and a $34.0 million reduction in netloans outstanding.

 

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Asa result of the failing national, state and regional economies, the Companyredefined its growth plans for 2008 and 2007. This is evidenced by the decrease in total assets to $556 million at December 31,2008 from $626.6 million at December 31, 2007 and $651.5 million at December 31,2006.  This represents a cumulativetwo-year reduction of about $96 million since year end 2006, and the growthreported of about $267 million between December 31, 2006 and December 31,2005.  Of the $267 million growth in2006, approximately $150 million was due to the acquisition of NNB Holdings, Inc.,and approximately $117 million of the growth was internal organic growth.  Between December 31, 2007 and December 31,2008, total deposits increased $14.7 million or approximately 3.2%, investmentsecurities (not including the trading account) decreased $21 million, or 24.2%,and gross loans decreased by $33.5 million, a decrease of approximately 7.1%.

 

Historicallythe Company’s primary deposit growth has come from its branches and a specializedprogram of tax-free real estate exchange deposits. At December 31, 2008these exchange deposits totaled approximately $5 million, or 1% of totaldeposits as compared to December 31, 2007, at $31 million and about 7% ofthe subsidiary bank’s deposits as compared with $70 million and 14%,respectively for 2006.  Management hasintentionally allowed some of these 1031 deposits generated from non-owned QIcompanies to depart the Bank and has replaced them with lower cost fundingsources.

 

**BALANCE SHEET ANALYSIS**

 

**INTEREST EARNING ASSETS**

 

**Investment Portfolio**

 

The major components of the earning asset base for the Company are itsinvestment securities 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 the 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-K.

 

See Appendix 4 for a detailed schedule of securities available for saleand held to maturity and Appendix 5 for information regarding the contractualmaturities of our debt securities. Actual maturities will differ from contracted scheduled maturitiesbecause obligors may have the right to call for redemption or prepayobligations with or without call or prepayment penalties.

 

Pursuant to SFAS No. 115, “Accounting for Certain Investments inDebt and Equity Securities” issued on December 31, 1993, the Company hasclassified its investments into three primary portfolios; “available for sale”,“held to maturity”, and “trading”.

 

The investment portfolio serves several purposes: 1) it providesliquidity to mitigate uneven cash flows from the loan and deposit activities ofcustomers; 2) it provides a source of pledged assets for securing publicdeposits and borrowed funds; 3) it is a large base of assets, the maturity andinterest rate characteristics of which can be changed more readily than theloan portfolio to better match changes in the deposit base and other fundingsources of the Company; 4) it is an alternative interest-earning use of fundswhen loan demand is light; and 5) it may provide partially tax-exempt income.During the Company’s growth since its inception seven years ago, depositacquisition activities outpaced loan growth until the latter half of 2004.  As a result, the Company’s investmentportfolio was the primary placement of interest earning funds over the firsttwo and one half years of the Company’s existence.  Since that time, loan volumes have replacedinvestment volumes as the primary interest earning asset base.

 

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The Company’s investment portfolio is primarily composed of sevensubsets: (1) liquid funds, which include “Fed Funds Sold”, temporary salesof excess funds to correspondent banks, and money market funds with maturitiesof less than 30 days.  These items arenot detailed as an element within the Company’s reported longer-term securitiesportfolio; (2) US Treasury and Agency issues for liquidity; (3) state,county and municipal obligations which may provide limited tax free income andpledging potential; (4) mortgage-backed securities for cash flow andenhanced earnings; (5) corporate securities; (6) preferredsecurities, and (7) other equity investments, some of which are readilymarketable and carried in investments, and some of which are not readilymarketable and are carried in other assets. For discussion purposes, when we refer to the securities portfolio, wemean investment portfolio subsets 2-6, which are listed as ouravailable-for-sale securities and our held-to-maturity securities on ourregulatory 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, state, county and municipal obligations, other equity andcorporate investments held.  They mayvary in volume based on investment rates paid, perceived value in a rising orfalling interest rate environment, and various other factors having to do withcurrent FOMC activities and money market conditions.  Previously, the trading portfolio consistedof equity investments in listed stocks on the national exchanges and in someinstances covered call options were written against issues carried in thisportfolio.  This portfolio has verylimited volumes at the current time.

 

Total investment securities were $60.0 million (fair value) at December 31,2008, exclusive of overnight placements and liquid money market funds of $1.8million.  This compares to $80.1 million(fair value) of investment securities and $323,000 in liquid money market fundsat December 31, 2007.  Theinvestment portfolio declined by $20.1 million from the level at December 31,2007, primarily from write-downs recorded in 2008 associated with securitiesthat were other-than-temporarily impaired and from the sale of municipalobligations and U.S. agency securities. These investments were sold in order to reduce the Company’s riskprofile and increase liquidity as a result of the isolated, non-recurring andunusual activities of the U.S. Treasury Department that could not be reasonablyanticipated with their conservatorship of FNMA and FHLMC.  Such unprecedented and precipitous actionshave shaken the confidence of Company management as to unintended consequencesthat may surface during 2009 in the financial industry and financial markets asa result of Treasury actions.

 

Total investments averaged approximately $104 million for the yearended December 31, 2008, a 3.6% decrease from the approximately $108million average reported for the year ended December 31, 2007.  The investment portfolio for the years ended December 31,2008, 2007 and 2006 comprised 19%, 18% and 28%, respectively, of averageearning assets.

 

The Company wrote-down the value of investment securities by $13.5million, pre-tax, for the year ended December 31, 2008 due toother-than-temporary impairment of its Fannie Mae (FNMA) preferred stock,Freddie Mac (FHLMC) preferred stock and certain corporate securities (primarilybank pooled trust preferred securities). The FNMA and FHLMC preferred stock was written down by $12.0 million andthe corporate securities were written down by $1.5 million.

 

**Investment Portfolio Credit Quality**

 

*Available for Sale and Held to Maturity Portfolios*

 

Investment allocations at December 31, 2008 include U.S.Government and federal agencies (10.3%), Agency mortgage-backed securities(58.5%), state and municipals (25.4%), bank pooled trust preferred securities(2.1%), non-agency mortgage-backed securities (2.4%), preferred securities(0.7%) and corporate securities (0.6%). The charts below summarize the portfolio distribution and credit qualityof the Company’s investment portfolio, using the average of the ratings ofMoody’s, Standard and Poor’s or Fitch Ratings, and the portfolio distribution.

 

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| ** **                                    | ** ** | **Investment Securities Portfolio** | ** ** |
|-----------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                    | ** ** | **December 31, 2008**               | ** ** |
| ** **                                    | ** ** | **Par**                                       | ** ** | ** ** | ** ** | **Fair** | ** ** | ** ** | ** ** | **Amortized** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Value**                                     | ** ** | **%** | ** ** | **Value** | ** ** | **%** | ** ** | **Cost** | ** ** | **%** | ** ** |
| ** **                                    | ** ** | **(Dollars in thousands)**          | ** ** |
| U.S. Government  and federal agencies         |       | $                                             | 6,000      |   | 9.8 | % | $ | 6,198 |   | 10.3 | % | $ | 6,033 |   | 10.0 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| Agency  mortgage-backed                       |       | 34,271                                        |       | 56.2 | % | 35,090 |   | 58.5 | % | 34,762 |   | 57.4 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| State and  municipals:                        |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| AAA                                           |       | 2,365                                         |       | 3.9 | % | 2,311 |   | 3.9 | % | 2,493 |   | 4.1 | % |
| AA                                            |       | 4,970                                         |       | 8.1 | % | 4,888 |   | 8.1 | % | 5,236 |   | 8.6 | % |
| A                                             |       | 5,695                                         |       | 9.3 | % | 5,745 |   | 9.6 | % | 6,101 |   | 10.1 | % |
| BBB                                           |       | 1,205                                         |       | 2.0 | % | 1,212 |   | 2.0 | % | 1,251 |   | 2.1 | % |
| NR                                            |       | 1,104                                         |       | 1.8 | % | 1,099 |   | 1.8 | % | 1,146 |   | 1.9 | % |
| Total state and  municipals                   |       | 15,339                                        |       | 25.1 | % | 15,255 |   | 25.4 | % | 16,227 |   | 26.8 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| Bank pooled  trust preferred securities:      |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| BBB                                           |       | 750                                           |       | 1.2 | % | 340 |   | 0.6 | % | 340 |   | 0.6 | % |
| NR                                            |       | 2,250                                         |       | 3.7 | % | 896 |   | 1.5 | % | 882 |   | 1.5 | % |
| Total bank  pooled trust preferred securities |       | 3,000                                         |       | 4.9 | % | 1,236 |   | 2.1 | % | 1,222 |   | 2.0 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| Non-agency  mortgage-backed:                  |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| AAA                                           |       | 1,566                                         |       | 2.6 | % | 1,445 |   | 2.4 | % | 1,483 |   | 2.4 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| Preferred  securities:                        |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| A                                             |       | 500                                           |       | 0.8 | % | 435 |   | 0.7 | % | 503 |   | 0.8 | % |
|                                          |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| Corporate  securities:                        |       |                                          |       |   |   |   |   |   |   |   |   |   |   |
| BBB                                           |       | 250                                           |       | 0.4 | % | 240 |   | 0.4 | % | 250 |   | 0.4 | % |
| NR                                            |       | 95                                            |       | 0.2 | % | 95 |   | 0.2 | % | 95 |   | 0.2 | % |
| Total corporate  securities                   |       | 345                                           |       | 0.6 | % | 335 |   | 0.6 | % | 344 |   | 0.6 | % |
| Total Investment  Portfolio                   |       | $                                             | 61,021     |   | 100.0 | % | $ | 59,994 |   | 100.0 | % | $ | 60,575 |   | 100.0 | % |

 

Investment securities are evaluated periodically to determine whether adecline in their value is other-than-temporary. Considerations such as theCompany’s intent and ability to hold securities, recoverability of investedamount over the Company’s intended holding period and receipt of amountscontractually due, for example, are applied in determining whether the value ofa security is other-than-temporarily impaired. Once a decline in value isdetermined to be other-than-temporary, the value of the security is reduced anda corresponding charge to earnings is recognized in the Consolidated Statementsof Operations. For the year ended December 31, 2008, the Companydetermined certain securities to be OTTI, and accordingly, recognized a $13.5million pre-tax write-down of the securities portfolio. The write-down wasdetermined based on the individual securities’ credit performance and itsability to make its contractual principal and interest payments. Should creditquality of certain securities continue to deteriorate, it is possible thatadditional write-downs may be required. If economic conditions continue todeteriorate, it is possible that the securities that are currently performingsatisfactorily could suffer impairment and could potentially requirewrite-downs. The entire securities portfolio is evaluated each quarter todetermine if additional write-downs are warranted.

 

The Company reviews all investment securities with unrealized losses todetermine the duration and severity of the price declines. Management evaluatessecurities for OTTI based on the severity and duration of each security’s marketvalue decline.

 

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At December 31, 2008, the investment portfolio contained $4.0million (face value) of securities with unrealized losses for 12 months orgreater, with an aggregate loss of $122,000. Of the total face value, $1.1million consisted of state and municipal securities with a loss of $78,000. Theremaining $2.9 million, with an aggregate loss of $44,000, consisted ofmortgage-backed securities.  Each ofthese securities was tested for credit-based price declines using a cash-flowmodel using a methodology compliant with FAS-115 and EITF 99-20.  For further discussion onother-than-temporary impairment, refer to NOTE 5.

 

At December 31, 2008, the Company’s investment portfolio had netunrealized losses of $580,000, or 1.0% of amortized cost, down from $1.1million, or 1.4% of amortized cost at December 31, 2007.  The Company continually evaluates the creditquality and market pricing of the securities portfolio. Based upon these andother factors, the securities portfolio may experience further impairment. At December 31,2008, management had the intent and ability to retain investment securitieswith unrealized losses until the decline in value has been recovered.

 

In early 2008, the Company invested in FNMA and FHLMC preferred stockfor the rate of return, safety and soundness of a government sponsoredenterprise (GSE) and strong investment rating (AAA).  Subsequent to the investment, the U.S.Department of Treasury placed FNMA and FHLMC into conservatorship in September 2008.  Management deemed that an OTTI existedrelated to these securities and consequently recorded a $12.0 million pre-taximpairment charge upon the sale of such investments.  The Company held no FNMA or FHLMC preferredstock at December 31, 2008.

 

Five corporate securities (bank pooled trust preferred securities) werewritten down in 2008.  Managementdetermined that an OTTI existed due to the inactive market for these securitiesand, consequently, recorded a $1.3 million pre-tax impairment charge.

 

The $36.2 million carrying value of the mortgage-backed securityportfolio includes $34.7 million of agency-backed securities and $1.5 millionof non-agency mortgage-backed securities with a Standard and Poors creditrating of AAA.  The Company has notexperienced any OTTI associated with the mortgage-backed security portfolio.

 

The state and municipal bond portfolio has a carrying value of $16.2million.  The portfolio consists offederally tax-exempt general obligation and revenue securities which aregeographically diversified.  $15.1million (carrying value) of the municipalities have underlying investment gradebond ratings from Standard and Poors and/or Moody’s and the remaining $1.1million are not rated.  The Company hasnot experienced any OTTI associated with the state and municipal bondportfolio.

 

The bank pooled trust preferred securities portfolio has a carryingvalue of $1.2 million at December 31, 2008.  As previously noted, five of these securitieswere written down in 2008.

 

The preferred securities have a carrying value of $503,000 at December 31,2008 and a fair value of $435,000.00 for the same period.  The Company has not experienced any OTTIassociated with this preferred securities portfolio.

 

The corporate securities have a carrying value of $345,000 at December 31,2008.  One of these securities waswritten down in 2008.  Managementdetermined that an OTTI existed due to the inactive market for this securityand, consequently, recorded a $156,000 pre-tax impairment charge.

 

In addition to credit risk, the other significant risk in theinvestment portfolio is duration risk. Effective duration is a measure of duration which considers changes incash flows and is based on the expected price volatility of a security.  Generally the greater the duration of thesecurity or portfolio, the greater will be its percentage price volatility.  The effective duration is presented in yearsand is equal to the approximate 

 

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percentage change in price per 100 basis point change in rate.  The effective duration of the Company’sinvestment portfolio at December 31, 2008 was 3.05, as compared with 2.62and 2.53 as of the same date in 2007 and 2006, respectively.  This slight increase in duration during theyear was the result of changes in market rates of interest as well as longerterm to maturity municipal securities becoming a larger portion of the overallinvestment portfolio.

 

*Trading Portfolio*

 

The Company has an equity trading portfolio with a carrying value of$83,000 at December 31, 2008.  Thesecurities held in this portfolio are classified as trading securities inaccordance with Statement of Financial Accounting Standards No. 115,Accounting for Certain Investments in Debt and Equity Securities.  The Company adjusts the value of this portfolioon a monthly basis through the Consolidated Statement of Operations.  Due to the decline in the financial markets,the Company had net realized and unrealized losses of $997,000 for the yearended December 31, 2008, compared to net realized and unrealized gains of$118,000 for the year ended December 31, 2007 for the much larger previousportfolio.  The Company has notexperienced any OTTI associated with the equity trading portfolio.

 

*Other Non-Marketable Equity Securities Portfolio*

 

At December 31, 2008, the Company held other non-marketable equitysecurities with a carrying value of $4.3 million compared to $6.2 million at December 31,2007.  The $1.9 million decrease was dueto a reduction in the amount of Federal Home Loan Bank (“FHLB”) of San Franciscostock held by the Company during the year. The amount of FHLB stock held by the Company is related to the extent offunds borrowed from the FHLB as of each reporting period.  At December 31, 2008, othernon-marketable equity securities were comprised of equity in Pacific CoastBankers’ Bancshares, a passive investment in Carson River Community Bank, (“CRCB”)and some shares of the Bank’s mutual workman’s compensation insurance carrierthat went public, all of which are currently considered to not have readilydeterminable fair market values.  At December 31,2008, the amounts of FHLB stock and Pacific Coast Bankers’ Bancshares (“PCBB”)equity shares were $2.7 million and $398,000, respectively, while the CRCBinvestment was $500,000 and the insurance shares were $138,000.  The remainder of the portfolio consists ofthe Company’s required equity investments in The Bank Holdings Statutory TrustI and NNB Holdings Statutory Trust I. These trusts were formed in prior years to facilitate the issuance of capitaltrust pass through securities, the proceeds from which provided additionalregulatory capital for the Company.  Allof the above other non-marketable equity investments are carried at cost.

 

As discussed in “Other Borrowings and Subordinated Debt”, herein, theCompany had a total of $27 million in advances outstanding from the FHLB at December 31,2008.  When the Company borrows from theFHLB, in addition to paying interest on the amount borrowed, it is required tobuy a certain amount of FHLB stock based on how much the Company borrowed andthe credit quality of the collateral it posted. As the Company pays off the advance, the FHLB repurchases the FHLB stockfrom the Company.

 

As noted above, the Company has a $2.7 million investment in FHLB ofSan Francisco stock at December 31, 2008. The FHLBs are currently facing the potential for substantial accountingimpairments at December 31, 2008 on their private label, or non-agency,mortgage-backed securities portfolio. These impairments could significantly impair their capital levels.  Some of the FHLBs could fall below regulatorycapital minimums.  If this occurs, thoseFHLB banks will not be permitted to pay dividends to shareholders and they willnot be permitted to repurchase stock from their shareholders.  This could negatively impact the valuation ofthe Company’s FHLB stock investment.

 

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The accounting guidance for evaluating impairment of FHLB stock isdifferent from the accounting guidance used to evaluate other types ofinvestments.  As discussed in Statementof Position (SOP) 01-6, “*Accounting by CertainEntities (Including Entities With Trade Receivables) That Lend to or Financethe Activities of Others*,” FHLB stock is generally viewed as along-term investment.  Accordingly, whenevaluating FHLB stock for impairment, its value should be determined based onthe ultimate recoverability of the par value, rather than by recognizingtemporary declines in value.  Thedetermination of whether the decline affects the ultimate recoverability isinfluenced by criteria such as the following:

 

·                  The significance of the decline in net assetsof the FHLBs as compared to the capital stock amount for the FHLBs and thelength of time this situation has persisted.

·                  Commitments by the FHLBs to make paymentsrequired by law or regulation and the level of such payments in relation to theoperating performance of the FHLBs.

·                  The impact of legislative and regulatorychanges on institutions and, accordingly, on the customer base of the FHLBs.

·                  The liquidity position of the FHLBs.

 

On January 8, 2009, the San Francisco FHLB reported that it wassuspending dividends and repurchases of stock in excess of what is required formembers’ current loans.  Moody’sInvestors Service (Moody’s) current assessment of the FHLB’s portfoliosindicates that the true economic losses embedded in these securities aresignificantly less than the accounting impairments would suggest and aremanageable given the FHLB’s capital levels. According to Moody’s, the large difference between the expected economiclosses and the mark-to-market impairment losses for accounting purposes isattributed to market illiquidity, de-leveraging and stress in the credit marketin general.  Furthermore, Moody’sbelieves that the FHLBs have the ability to hold the securities untilmaturity.  The FHLBs have access to theU.S. Government-Sponsored Enterprise Credit Facility (GSECF), a secured lendingfacility that serves as a liquidity backstop, substantially reducing thelikelihood that the FHLBs would need to sell securities to raise liquidity and,thereby, cause the realization of large economic losses.  In addition, the Federal Reserve has begun topurchase direct debt obligations of Freddie Mac, Fannie Mae and the FHLBs.  Moody’s has stated that their Aaa senior debtrating and Prime-1 short-term debt rating are likely to remain unchanged basedon expectations that the FHLBs have a very high degree of governmentsupport.  Based on the foregoinginformation, the Company has determined that no impairment charge is warrantedon its investment in FHLB stock at December 31, 2008.

 

The Company has determined that no impairment charge is warranted onits other non-marketable equity securities holdings, as well.

 

**Loan Portfolio**

 

The major component of interest earning assets is the Company’s loanportfolio.  A detailed review of thecomposition and characteristics of this portfolio is important and germane toany analysis of the financial condition and results of operations of theCompany.

 

A comparative schedule of the distribution of the Company’s loans at December 31,2008, 2007 and 2006 is presented in Appendix 6, Composition of LoanPortfolio.  The amounts shown in thetable are before deferred or unamortized loan origination, extension, orcommitment fees and origination costs for loans in that particular category.  Further, the figures noted for each categoryare presented as percentages, for ease of reviewer analysis.  For each period reported, there are no loansbeing serviced by the institution for the benefit of others, exceptparticipation loans sold during the normal course of business.  Further, no loans, other than the USDA/SBAfair value loans, are considered held for sale.

 

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Gross loans including USDA loans at fair value have decreased $33.5million, or 7.1%, to $441.2 million during the twelve months ended December 31,2008.  The decrease in loans outstandingwas due to the slowing economic activity in the Company’s markets and customerinitiated repayments.  As shown inAppendix 6, the largest volume change between December 31, 2008 and December 31,2007 was the decrease of the Company’s real estate construction loanportfolio.  The Company’s commercial andUSDA/SBA portfolios also experienced a decrease in 2008.  These portfolio decreases were partiallyoffset by increases in the real estate term and consumer loan portfolios.

 

Forthe years ended December 31, 2008 and 2007, there were no substantivechanges in loan concentrations, credit underwriting or credit terms.  At December 31, 2008 and 2007,approximately 80% of loans were classified as real estate loans.

 

**Real Estate Lending**

 

The Banks’ lending activities consist of the origination of bothconstruction and permanent loans on residential and commercial realestate.  The Bank rarely makesresidential mortgage loans. The Bank has actively solicited real estate loanapplications from real estate brokers, contractors, existing customers,customer referrals, and walk-ins to its offices.  The Bank’s lending policies generallyestablish loan to value guidelines that are less than regulatory limits. TheBank does not originate either conventional or sub-prime 30-year residentialmortgages.  The Bank also providesinterim construction financing for single-family dwellings.  The Bank also makes lot acquisition loans toborrowers who intend to construct their primary residence on the respectivelot.  These loans are generally for aterm of three to five years and are secured by the developed lot.

 

**Land Acquisition and Development Loans**

 

Where real estate market conditions warrant, the Bank makes landacquisition and development loans on properties intended for residential andcommercial use.  These loans are generallymade for a term of 18 months to two years and secured by the developed propertywith a loan to value not to exceed 80% of cost or 70% of market value,whichever is less.  The loans are made toborrowers with real estate development experience and appropriate financialstrength.  Generally it is required thata certain percentage of the development is pre-sold or that construction hasbeen pre-qualified for a term take-out by the Company.

 

**Commercial Real Estate Loans**

 

Loans are made to purchase, construct and finance commercial realestate properties.  These loans aregenerally made to borrowers who own and will occupy the property.  Loans to finance investment or income propertiesare made, but require additional equity and higher debt service coverage marginscommensurate with the specific property and projected income. The SilveradoBank division also focuses on government guaranteed loans through the SmallBusiness Administration, or SBA.

 

**Consumer Lending**

 

The majority of all consumer loans are secured by real estate,automobiles, or other assets.  The Bankintends to continue adding such loans due to their short-term generally fixedrate nature, generally between three months and five years, with an average termof approximately two years.  Moreover,interest rates on consumer loans are generally higher than on other types ofloans.  The Bank also originates secondmortgage and home equity loans, especially to its existing customers ininstances where the first and second mortgage loans are less than 80% of thecurrent appraised value of the property.

 

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**Credit Risk Management**

 

The Company’s credit risk management includes appropriate creditpolicies, individual loan approval limits and committee approval of larger loanrequests.  Management practices alsoinclude regular internal and external credit examinations, management reviewand quarterly monitoring of loans experiencing deterioration of credit quality.

 

**Loan Approval Limits**

 

Nevada Security Bank’s Board of Directors has voted to allow aDirectors Loan Committee (“Committee”) to approve up to 90% of the Bank’s legallending limit in regard to loans secured by real estate and listed stocks andbonds.  In addition, the Committee isable to approve all other loans up to 50% of the bank’s legal lendinglimit.  All higher limits must beapproved by the Board of Directors.  Cashsecured loans are excluded from these limits.

 

The Committee has established individual loan limits for loan officers,senior lenders and a threshold of loan limits for approval by a combination ofsenior lenders.  The Committee approvesloans above these thresholds after the recommendation of the Chief CreditOfficer.

 

**Loan Origination and Other Fees**

 

In addition to interest earned on loans, the Bank receives loanorigination fees for originating loans. Loan fees generally are a percentage ofthe principal amount of the loan, are charged to the borrower, and are normallydeducted from the proceeds of the loan. Loan origination fees are generally 1.0% to 1.5% on real estate loansand .5% to 1.5% on commercial loans. Consumer loans require a flat fee as well as a minimum interestamount.  The Bank also receives otherfees and charges relating to existing loans, which include charges and feescollected in connection with loan modifications and tax service fees.

 

**Loan Maturities**

 

Appendix 7, the Scheduled Contractual Maturities of the Loan Portfoliopresents the contracted maturity distribution for each major category of ourloan portfolio and the sensitivity of such loans to changes in interest ratesat December 31, 2008.

 

**Off – Balance Sheet Arrangements**

 

In the usual course of business, the Company makes commitments toextend credit as long as there are no violations of any conditions establishedin the outstanding contractual arrangement. Commitments to extend credit were $34.1 million at December 31,2008 as compared to $62.9 million and $107.5 million at December 31, 2007and 2006, respectively.  Thesecommitments represented about 8%, 13% and 23% of outstanding gross loans ateach of the periods noted, respectively. The Company’s stand-by and commercial letters of credit totaled $1.6million, $714,000 and $545,000 at December 31, 2008, 2007 and 2006,respectively.   This total represented aninsignificant portion of total commitments outstanding at each noted date.

 

The importance to and effect on the Company’s revenues, expenses, cashflows, liquidity, capital resources and market risk from the unused portion ofthe commitments to provide credit cannot be reasonably predicted since there isno guarantee that the lines of credit will ever be used. For more informationregarding the Company’s off-balance sheet arrangements, please refer to NOTE 14to the financial statements.

 

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**Non–Performing Assets**

 

We manage asset quality and control credit risk through the applicationof policies, practices and procedures designed to promote sound underwritingand loan monitoring, and the diversification of the loan portfolio.  The loan administration function is chargedwith monitoring asset quality and establishing credit policies, practices andprocedures which are thorough and consistently enforced.  The Company had twenty-seven non-accrualloans totaling $23.8 million at December 31, 2008.  At December 31, 2007, the Company hadten loans on non-accrual which totaled $5.6 million.

 
| ** **                                 | ** ** | **December 31, 2008**      | ** ** | **December 31, 2007** | ** ** |
|--------------------------------------------|------------|--------------------------------------|------------|---------------------------------|------------|
| ** **                                 | ** ** | **Active  Balance**                  | ** ** | **Estimated  Inherent  Loss**   | ** ** | **Active  Balance** | ** ** | **Estimated  Inherent  Loss** | ** ** |
| ** **                                 | ** ** | **(Dollars in thousands)** | ** ** |
| Non-Performing  Loans                      |       |                                 |       |                            |       |   |   |   |   |
| Construction,  Acquisition and Development |       | $                                    | 35,476     |                            | $          | 785 |   | $ | 9,363 |   | $ | 150 |   |
| SBA Guaranteed                             |       | 499                                  |       | —                          |       | 2,889 |   | — |   |
| Total  Non-Performing Loans                |       | 35,975                               |       | 785                             |       | 12,252 |   | 150 |   |
|                                       |       |                                 |       |                            |       |   |   |   |   |
| Other Real  Estate Owned                   |       |                                 |       |                            |       |   |   |   |   |
| OREO                                       |       | 2,156                                |       | —                          |       | 800 |   | — |   |
|                                       |       |                                 |       |                            |       |   |   |   |   |
| Total  Non-Performing Assets               |       | $                                    | 38,131     |                            | $          | 785 |   | $ | 13,052 |   | $ | 150 |   |

 

At December 31, 2008 and 2007, all non-performing SBA loans havebeen written down to the SBA guaranteed portion.  Non-performing construction, acquisition anddevelopment loans have been evaluated and management believes that collateralvalues are sufficient to mitigate any loss potential except as noted.  The OREO properties were written down toestimated fair market value as they were placed in the Company’s OREO portfolioand pursuant to Nevada revised statutes, were written down by an additionalamount in excess of the annual 10% required. Management believes that the properties have sufficient value tomitigate any loss potential; however, no assurance can be given that furtherloss will not, in fact, occur.

 

The evaluation of these factors of risk is performed by independentthird party review firms that employ credit professionals to determine ouradherence to previously established internal guidelines.  These evaluations include many factors, suchas 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, and othertrends and conditions.  Further, suchindependent external reviews include evaluating the financial strength of theborrowers, the value of applicable collateral, any prior loan loss experiences,the growth in the loan portfolio, and other conditions.  During the twelve months ended December 31,2008, two such evaluations were conducted. In addition, bank regulatory authorities, as part of their periodicexaminations of the Bank, review loan quality and the adequacy of the allowancefor loan losses.  Their most recentreview was conducted in February 2009.

 

Non-performing assets are comprised of the following:  loans for which the Company is no longeraccruing interest; loans 90 days or more past due and still accruing interest(although loans are generally placed on non-accrual when they become 90 dayspast due); loans restructured where the terms of repayment have beenrenegotiated resulting in a deferral of interest or principal; non-performinginvestments; and other real estate owned (“OREO”).  Management’s classification of a loan asnon-accrual or restructured is an indication that there may be reasonable doubtas to the Company’s ability to collect all the contractually owed principaland/or interest on the loan.  At thatpoint, the Company stops accruing income from the interest on the loan,reverses any uncollected interest that had been accrued but unpaid, andrecognizes interest income only as cash interest payments are received and aslong as the collection of all outstanding principal is not in doubt.  These loans may or may not be collateralized,but in all cases collection efforts are continuously pursued.

 

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**Allowance for 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 allowanceis increased by provisions charged against current earnings, and reduced by netcharge-offs.  Specifically identifiableand quantifiable losses are immediately charged-off against the allowance;recoveries are generally recorded only when cash payments are receivedsubsequent 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 aperiodic review of individual loans that have been specifically identified asproblem loans or have characteristics that could lead to impairment, as well asa detailed review of other loans (either individually or in pools).  While this methodology utilizes historicaland other objective information, the establishment of the allowance for loanlosses and the classification of loans are also to some extent, based onmanagement’s judgment and experience.

 

Peerdata for all institutions reported in the Uniform Bank Performance Report forthe State of Nevada reflects an allowance for loan losses to loans not held forsale of 1.86% of total loans at December 31, 2008.  This compares to the National Peer Group 3(all insured commercial banks having assets between $300 million and $1billion) ratio of 1.38% as of the same date. For the National Peer Group, loan losses were reported at .49% ofaverage total loans outstanding, on an annualized basis for the year ended December 31,2008, while it was reported at .18%, for the year ended December 31, 2007and .11% for the year ended December 31, 2006.

 

Asreported in Appendix 8, the Company’s allowance for loan losses as a percent ofgross loans, including fair value loans, was 1.83% at December 31, 2008.The Company had net loan losses of $3.2 million for the year ended December 31,2008, or 0.69% of average total loans outstanding.  At December 31, 2007, the Company’sallowance for loan losses as a percentage of gross loans was 1.53% and theCompany had net loan losses of $1.2 million for the year, or 0.25% of average loansoutstanding.

 

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 include national peer and state peer historicalloss experience, our historical loss experience, delinquency and charge-offtrends, collateral values, changes in non-performing loans, and otherfactors.  Other factors include thestrength of the borrower, collateral (if any), the loan-to-value ratio andother specific criteria.

 

Qualitativefactors include the general economic environment nationwide and in our specificgeographic markets and indications of economic activity in key industries inthe northern Nevada and northern California markets.  The way a particular loan might bestructured, the extent and nature of conditional waivers of existing loanpolicies, the results of bank regulatory examination, model imprecision, andthe rate of portfolio growth are additional qualitative factors that areconsidered.

 

Appendix8 summarizes the activity in the Allowance for Loan Losses for the periodsindicated, and Appendix 9 provides information regarding the allocation of theAllowance for Loan Losses.

 

During2008 and 2007, we continued to refine and further evaluate certain assumptionsand estimation methods related to each primary loan category including peergroup and the Company’s loan loss histories. Prior to 2007, the Company sustained very low levels of loan charge-offs.  The increased level of loan charge-offs in2008 and 2007, combined with the declining economic environment, have alteredour view of certain assumptions made during better times.  As shown in Appendix 9, the Companyreallocated the allowance for loan losses at December 31, 2008 as comparedto prior years.  Given the continued 

 

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deteriorationin the economic environment, the Company has a $1.8 million unallocated reservefor losses inherent in the loan portfolio while we had no unallocated reserveat December 31, 2007.  Theunallocated component of the allowance exists to mitigate the imprecisioninherent in management’s estimates of expected credit losses and includesmanagement’s judgmental determination of the amounts necessary forconcentrations, economic uncertainties and other subjective factors that maynot have been fully considered in the allocated allowance.  The relationship of the unallocated componentto the total allowance is likely to fluctuate from period to period.  Although management has allocated themajority of the allowance to specific loan categories, the evaluation of theallowance is considered in its entirety.

 

Managementbelieves that the ALL at December 31, 2008 is sufficient to absorb lossesinherent in the loan portfolio.  Thisamount is based on the best available information and does involve uncertaintyand 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, we carry an allowance forundisbursed loan commitments which is reported as an “other liability.”  At December 31, 2008, 2007 and 2006,such allowance totaled $121,000, $199,000 and $334,000, respectively, andrepresented 0.35%, 0.32% and 0.32% of loan commitments outstanding,respectively, and 0.03%, 0.04% and 0.07% of total gross loans, respectively.

 

**NON-INTEREST EARNING ASSETS**

 

Non-earningassets are those assets that by their characteristics do not generate interestincome for the Company.  Generallyspeaking, a financial institution would prefer to minimize such assets, whichare primarily composed of cash and due from balances, premises and equipment,bank owned life insurance, intangibles and “other” assets.  At December 31, 2008, 2007 and 2006 suchassets totaled about $56 million, $64 million and $72 million, and representedapproximately 10%, 10% and 11% of total assets, respectively. At December 31,2008 this total is comprised of $4 million goodwill and intangibles, $21million non-interest bearing cash and due from banks, $10 million bank ownedlife insurance, $7 million in property and equipment, $2 million in accruedinterest receivable and $10 million in deferred tax assets.

 

**Cash and Due From Banks**

 

Cash on hand and balances due from correspondent banks amounted to$21.3 million at December 31, 2008 compared to $13.9 million at December 31,2007.  These amounts represented 3.9% and2.2% of total assets at December 31, 2008 and 2007, respectively.  Of the $21.3 million held at the end of 2008,$14.9 million was held at the Federal Reserve Bank of San Francisco, to reducethe Company’s risk profile.

 

**Premises and Equipment**

 

Premises and equipment, net totaled $7.4 million at December 31,2008 compared to $7.5 million at December 31, 2007.  This represented 1.3% and 1.2% of totalassets at December 31, 2008 and 2007, respectively.  At December 31, 2008, there were nomaterial commitments for capital expenditures, nor were there any fixed or longlived assets held for sale or impaired in value.

 

Premises and equipment are stated at cost less accumulated depreciationand amortization.  Depreciation ischarged to income over the estimated useful lives of the assets and leaseholdimprovements are amortized over the terms of the related lease, or theestimated useful lives of the improvements, whichever is shorter.  Depreciation and amortization wasapproximately $1.5 million for the year ended December 31, 2008 as comparedto $1 million during 2007.  Appendix 10,Premises and Equipment reflects the balances by major category of fixed assets.

 

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**Bank Owned Life Insurance**

 

AtDecember 31, 2008, the Company had $9.8 million in Bank Owned LifeInsurance (“BOLI”) classified as a non-earning asset, as compared to $9.5million at December 31, 2007.  BOLIis an insurance policy with a single premium 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 benefit plans added arefunded with BOLI income and projected to have a tax-equivalent return of about5%.  No assurance can be given that thisreturn will be fully realized, however, especially in light of current realizedmarket volatility in the value of insurance policies’ underlying assets. Pleasesee disclosure under “Subsequent Event” on page 83 hereof.

 

**Goodwill and Intangible Assets**

 

The Company had goodwill of $3.2 million and $29.6 million at December 31,2008 and 2007, respectively.  During theCompany’s annual assessment of goodwill during 2008, the Company recognized animpairment loss of $26.9 million. Currently, Goodwill is comprised of two components which are: theacquisition of NNB for approximately $2.7 million and CNA Trust for$500,000.  Goodwill is discussed in moredetail in “*Notes to Consolidated Financial Statements, Note 1 —Basis of Presentation and Nature of Operations”* and “*Note 9 — Goodwill*” presented elsewhere herein.

 

Intangible assets consist of core deposit intangibles of $951,000 and$1.1 million as of December 31, 2008 and 2007, respectively, related tothe acquisition of NNB Holdings and Northern Nevada Bank.  These assets are amortized over their usefullives, determined to be seven years.

 

**Other Assets**

 

Other assets are primarily composed of accrued interest receivable oninvestments and loans, certain prepaid accounts, deferred tax assets, and itemsin process of review and determination as to their ultimate disposition.  These amounts were $12.3 million, $7.3million and $8.0 million as of December 31, 2008, 2007 and 2006,respectively.  Of the total “other assets”,accrued interest receivable represented 19%, 45% and 42% at December 31,2008, 2007 and 2006, respectively.

 

Deferred tax assets amounted to approximately $8.6 million andrepresent 70% of the “other assets” category for the year ended December 31,2008, as compared to approximately $3.1 million and 47% for 2007.  Most of the Company’s temporary differencesbetween book and taxable income and expenses involve recognizing more expensesin its financial statements that it has been allowed to deduct for taxes;therefore, the Company’s deferred tax asserts typically exceed its deferred taxliabilities.  The net deferred tax assetis primarily due to temporary book/tax differences in the reported allowancefor loan losses plus deferred compensation and securities depreciation, net ofdeferred liabilities which are comprised mainly of fixed asset depreciationdifferences and deferred loan origination.

 

TheCompany periodically reviews the carrying amount of its deferred tax assets todetermine if the establishment of a valuation allowance is necessary. If, basedon the available evidence, it is more likely than not that all or a portion ofthe Company’s deferred tax assets will not be realized, a deferred taxvaluation allowance is established. Consideration is given to all positive andnegative evidence related to the realization of the deferred tax assets.

 

In evaluating the available evidence, management considered historicalfinancial performance, expectation of future earnings, length of statutorycarry forward periods, experience with operating loss and tax credit carryforwards not expiring unused, tax planning strategies and timing of reversalsof temporary differences. Significant judgment was required in assessing futureearnings trends and the timing of reversals of temporary differences. TheCompany’s evaluation was based on current tax laws as well as management’s 

 

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expectations of future performance based on its strategicinitiatives.  Management evaluated alldeferred tax assets and has no reason to believe that either the quality of thedeferred tax assets or the Company’s future taxable income potential wouldpreclude the full realization of all amounts in future years.  Changes in existing tax laws and futureresults differing from expectations could result in significant changes in anydeferred tax asset valuation allowance, however.

 

**Deposits**

 

Depositsare the most important source of the Company’s funds for lending and otherbusiness purposes.  In addition, the Bankderives funds from investment portfolio interest and principal repayments, loanrepayments, advances from the FHLB of San Francisco, repurchase agreements,treasury term borrowings, and loan sales. Investment portfolio payments and loan repayments can be relativelystable sources of funds, while non-interest bearing and interest bearingdeposit inflows and outflows are significantly influenced by general interestrate levels and money market conditions. Borrowings and advances may be used on a short-term basis to compensatefor reductions in normal sources of funds such as deposit inflows at less thanprojected levels.  They also may be usedon a long-term basis to support expanded activities and to match maturities oflonger-term assets.  Deposits obtainedthrough the subsidiary Bank have traditionally been the principal source offunds for use in lending and other business purposes.  The Bank has a number of different depositprograms designed to attract both short-term and long-term deposits from thegeneral public by providing a wide selection of accounts and rates.  These programs include personal andcommercial checking, regular statement savings, health savings, interest-bearingchecking, money market deposit accounts, and fixed rate certificates of depositwith maturities ranging from three months to five years, negotiated-rate jumbocertificates, non-interest demand accounts, 1031 QI accounts, and individualretirement accounts.  Deposits areobtained primarily from individuals and business residents of the Company’snorthern Nevada and northern California market areas.

 

An important balance sheet component impacting the Company’s netinterest margin is the composition and cost of the Company’s deposit and otherinterest bearing 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.

 

The Company’s pursuit of deposit accounts has been patterned alongtraditional means of acquisition:  newcustomers coming into a branch facility; returning customers well known tostaff or management bringing their relationships over to the Bank; or as theresult of calls made by staff, officers, or directors on certain prospective orpotential customers.  Further, it is theCompany’s goal to have established both deposit and loan relationships with allof the Company’s customers.

 

Potentially, the most volatile deposits in a financial institution arethe large certificates of deposits, those generally over $100,000.  Because these deposits, when considered withother customer specific deposits, may exceed the maximum amount of FDICinsurance for an account, depositors may select shorter maturities to offsetperceived risk elements associated with total interest bearing deposit accountsin excess of $250,000.  The Company mayfind such certificates to be more volatile than those generated within itsbranches from traditional sources; however, as branches generate additionaldeposit growth, this effect is somewhat mitigated.  Refer to Appendix 11, Maturity Schedule ofTime Certificates of Deposit for more information.

 

Total deposits, which were $466.0 million at December 31, 2008,increased by $14.7 million, or 3.3%, compared to December 31, 2007.  Increases in time deposits, interest bearingdemand and IRA accounts were partially offset by decreases in non-interestbearing demand, savings and money market accounts.  The decreases in non-interest bearing demand,savings and money market accounts are attributed to the FDIC’s 

 

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takeover of IndyMac Bank and the US Treasury Department’s guarantee ofbroker/dealer money market accounts during 2008.  As a result, there was a “flight to safety”of customer deposits towards perceived “too big to fail” national competitorssuch as Wells Fargo and Bank of America, as well as certain investment banksand brokerage houses.  It was only withlater FDIC actions to fully guarantee non-interest bearing transaction accountsand to guarantee up to $250,000 in interest bearing accounts that some faith incommunity banking was restored. Offsetting the $73.8 million decrease in the non-interest bearingdemand, savings and money market accounts were $88.5 million in increases intime deposits, interest bearing demand and IRA accounts.  Most of these increases were in time depositsless than $100,000.  Time deposits lessthan $100,000 increased $61.2 million, or 34.8%, due to an increase in brokereddeposits and special rates granted for new certificate customers.

 

The Company accepts brokered deposits on a selective basis at prudentinterest rates to augment deposit growth. There were $181 million and $154 million of brokered deposits at December 31,2008 and 2007, respectively.  Themajority of the brokered deposits mature in less than one year.  Brokered deposits are generally lessexpensive to generate than retail deposits but are not a guaranteed source offunds, which may affect the Company’s ability to raise necessary liquidity.

 

At December 31, 2008, the Company’s deposits were composed of11.2% in non-interest bearing demand deposits, 2.3% in interest bearing demanddeposits, 3.3% in savings, 13.2% in money market, 1.3% in IRAs, 50.8% in timedeposits less than $100,000 and 17.9% in time deposits greater than $100,000,while the composition of deposits was 14.5% non interest bearing demand, 2.1%interest bearing demand, 8.7% savings, 21.7% money market, 0.9% IRA’s, 38.9% intime deposits less than $100,000 and 13.2% in time deposits over $100,000 at December 31,2007.

 

**Non-Interest Bearing Liabilities**

 

Non-interestbearing deposit liabilities are an integral part of a financial institution’sfunds portfolio.  These consumer andbusiness checking accounts provide a relatively stable source of investablefunds which are considered among a financial institution’s core deposits.  Non-interest bearing demand deposits totaled$52.1, $65.4 and $73.7 million, respectively, and averaged about 12% of totalaverage deposits for each of the twelve months ended December 31, 2008,2007 and 2006.

 

Accruedexpenses and other liabilities totaled $5.0 million and $4.0 millionrespectively at December 31, 2008 and 2007, and are primarily representedby amounts calculated for interest payable and other expenses accrued butunpaid and certain clearing amounts. Accrued interest payable amounted to $1.4 million at December 31,2008 and $1.0 million at December 31, 2007.  Reserve for taxes was a debit balance of $2.6million at December 31, 2008 and was a negative $0.9 million at December 31,2007.  Accounts payable and other accruedexpenses amounted to $6.2 million and $3.9 million for the years ended December 31,2008 and 2007, respectively.  Minorityshareholder interest amounted to $1.1 million at December 31, 2007, whilethere was none at December 31, 2008. On February 1, 2008, the Company acquired the remaining 20% ofGranite Exchange at a predetermined cost of approximately $1.0 million and isnow the sole owner.

 

**Other Borrowings 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.  Uncommittedlines are available from several correspondent banks, however, the borrowingline at FHLB is dependent on the level of pledged collateral and the extent ofFHLB stock held.  There was a total of$116 million available from this source at December 31, 2008 and $100million at December 31, 2007, less funds drawn, as noted below.  Such funds were made available on anovernight, index-based rate at both December 31, 2008 and 2007.

 

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During2008, these lines of credit available to us under various agreements with theFederal Home Loan Bank of San Francisco, Pacific Coast Bankers’ Bank, and ZionsNational Bank were generally available under specified conditions.  The extent of pledged collateral available,the amount of the line and the period over which funds can be drawn may besubject to terms and conditions set forth in an underlying letter ofunderstanding.  At the current time,management is aware that Zions National Bank has entirely removed itspreviously available line of credit. Further, Pacific Coast Bankers Bank has said that it will no longergrant credit line availability except on a secured basis.  The FHLB of San Francisco, as a result of itsown de-leveraging, has also reduced standard credit lines from 25% to 20% of aneligible institution’s asset base and has concomitantly reduced advance ratesfor certain types of real estate secured assets.  As a result of such actions, the Bank hasapplied to the Federal Reserve Bank of San Francisco for additional borrowingcapacity.  Should such availabilities besubstantially reduced, management would look to other internal and externalsources of liquidity to support any reduced availability from current lines,although no absolute assurance can be given that this, in fact, wouldoccur.  As of December 31, 2008, theCompany had $27 million in advances outstanding from the FHLB as compared to December 31,2007, when $70.5 million had been drawn. As of even date, the Bank still had available credit of $89 million atthe FHLB.  As of December 31, 2007,the Company had drawn $110,000 on one of its overnight fed funds lines ofcredit.  There were no such advances asof December 31, 2008.

 

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 funding is likely to beutilized for generally short—term periods. Refer to Appendix 12, Other BorrowedFunds, which notes the extent of utilization of various funding sources over representedperiods.

 

In2005, the Company and its Connecticut statutory trust subsidiary, “The BankHoldings Statutory Trust I”, (the “Trust”) entered into a purchase agreementpursuant to which it was agreed that the trust would issue approximately $15.5million of floating interest rate trust preferred securities (the “TrustPreferred Securities”).  The TrustPreferred Securities were issued and sold in a private placement exempt fromregistration under the Securities Exchange Act of 1933, as amended.  The Company acquired an additional $5.2million in Trust Preferred Securities in the purchase of NNB Holdings, Inc.  The Trust Preferred Securities issued by theCompany require quarterly distributions of interest at a floating rate equal tothe three month LIBOR plus 1.42% until December 15, 2010 when the rate maybe fixed.  The securities acquired fromthe purchase currently have a fixed rate of 5.95% and will adjust to LIBOR plus1.85% beginning June 15, 2010.

 

**EconomicValue of Equity**

 

Thechanges in net interest income under rising and declining rate scenarios aretypically expected to bear a linear relationship.  The exposure to declining rates isdisproportionate in these simulations, however, because some of the Company’svariable deposit rates may be close to a perceived floor.  As rates on interest-bearing liabilities hitthis floor, the Company’s yields on earning assets continue to fall, creatingsignificant compression in the Company’s net interest margin.  This effect is exacerbated by the fact thatprepayments on fixed-rate loans tend to increase as rates decline.

 

Theeconomic (or “fair”) value of financial instruments on the Company’s balancesheet will also vary under the interest rate scenarios previouslydiscussed.  Economic values for financialinstruments are estimated by discounting projected cash flows (principal andinterest) at current replacement rates for each account type, while the fairvalue of non-financial accounts is assumed to equal book value and does notvary with interest rate fluctuations.  Aneconomic value simulation is a static measure for balance sheet accounts at agiven point in time, but this measurement can change substantially over time asthe characteristics of the Company’s balance sheet evolve and as interest rate andyield curve assumptions are updated.

 

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Theamount of change in economic value under different interest rate scenarios isdependent upon the characteristics of each class of financial instrument,including the stated interest rate or spread relative to current market ratesor spreads, the likelihood of prepayment, whether the rate is fixed orfloating, and the maturity date of the instrument.  As a general rule, fixed-rate financialliabilities gain in value as interest rates rise and lose value as interestrates decline, while fixed-rate financial assets become more valuable indeclining rate scenarios and less valuable in rising rate scenarios.  The longer the maturity of the financialinstrument, the greater the impact a given rate change will have on itsvalue.  In our economic value simulations,estimated prepayments are factored in for financial instruments with statedmaturity dates, and decay rates for non-maturity deposits are also projectedbased on management’s best estimates.  Wehave found that model results are highly sensitive to changes in the assumeddecay rate for non-maturity deposits, in particular.

 

Theeconomic value of equity (EVE) is calculated by subtracting the estimated fairvalue of liabilities from the estimated fair value of assets.  Based on the Company’s outsourced BancWareasset and liability management software system, the December 31, 2008 EVEunder a base case scenario was determined to be $77 million; while at December 31,2007 it was reported to be $77.8 million.

 

**Capital Resources**

At December 31, 2008, the Company had total shareholders’ equityof $37.2 million, comprised of $74.1 million in common stock and surplus, $36.3million in retained deficits, and $491 thousand in accumulated othercomprehensive losses.  Total shareholders’equity at the end of 2007 was $74.8 million. The substantial variance is as a result of three significant factorsthat occurred during 2008.  The firstfactor concerns the precipitous decline in the value of The Bank Holdingscommon stock specifically, and financial industry stock values in general,having to do with over-riding economic concerns, FOMC actions reducing interestrates 400 basis points over the past year, the credit market turmoil during thelatter half of 2008, and uncertainties surrounding the value of, andtransparency reporting of, underlying loan portfolios.

 

These actions and uncertainties brought into question the fair marketvalue of the Company’s 2006 Northern Nevada Bank and 1031 QI acquisitions.  As a result of revaluing such assets, theCompany had a non-cash impairment of such values of $26.9 million.

 

The second factor which significantly reduced the Company’s capitalresources was the conservatorship of FNMA and FHLMC.  This action reduced the value of preferredstock held in the Company’s investment portfolio and brought about animpairment charge of $12.0 million. Further, credit market turmoil lead to a one-time $1.5 million chargefor Other Than Temporary Impairments for several trust preferred securitiesheld by the Company and issued by other bank holding companies.

 

The third significant factor which entered into the reduction ofcapital resources is the uncertainty surrounding the depth, length and breadthof the current economic malaise, inextricably tied to the impact of monetaryand fiscal policy of the U.S. Government. The economic recession in effect since December 2007 has affectedevery facet of our organization, most notably in the ability of our borrowersto repay their contracted obligations. As a result, we have evaluated our Allowance for Loan Losses and believethe $8 million allowance at 2008 is adequate to meet the loan losses inherentin our loan portfolio.

 

The Bank and the Company were “well capitalized” at December 31, 2008, thehighest regulatory rating rendered. However, no absolute assurance can be given that this rating will infact continue unabated during 2009 although the Company has reduced itsrisk-based capital requirements during 2008 and early 2009 to more adequatelyreflect its reduced level of capital resources.

 

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**Regulatory Capital Guidelines**

Federal bank regulatory agencies use capital adequacy guidelines in theexamination and regulation of bank holding companies and banks.  The guidelines are “risk-based,” meaning thatthey are designed to make capital requirements more sensitive to differences inrisk profiles among banks and bank holding companies.

 

**Tier I and Tier II Capital**

Under the guidelines, an institution’s capital is divided into twobroad categories, Tier I capital and Tier II capital.  Tier I capital generally consists of commonshareholders’ equity, surplus and undivided profits.  Tier II capital generally consists of theallowance for loan losses, hybrid capital instruments, and subordinateddebt.  The sum of Tier I capital and TierII capital represents an institution’s total capital.  The guidelines require that at least 50% ofan institution’s total capital consist of Tier I capital.

 

**Risk-based Capital Ratios**

The adequacy of an institution’s capital is gauged primarily withreference to the institution’s risk-weighted assets.  The guidelines assign risk weightings to aninstitution’s assets in an effort to quantify the relative risk of each assetand to determine the minimum capital required to support that risk.  An institution’s risk-weighted assets arethen compared with its Tier I capital and total capital to arrive at a Tier Irisk-based ratio and a total risk-based ratio, respectively.  The guidelines provide that an institutionmust have a minimum Tier I risk-based ratio of 4% and a minimum totalrisk-based ratio of 8%.

 

**Leverage Ratio**

The guidelines also employ a leverage ratio, which is Tier I capital asa percentage of total assets, less intangibles. The principal objective of the leverage ratio is to constrain themaximum degree to which a bank holding company may leverage its equity capitalbase.  The minimum leverage rate is 3%;however, for all but the most highly rated bank hold companies and for bankholding companies seeking to expand, regulators expect an additional cushion ofat least 1% to 2%.

 

**Prompt Corrective Action**

Under the guidelines, an institution is assigned to one of five capitalcategories depending on its total risk-based capital ratio, Tier I risk-basedcapital ratio, and leverage ratio, together with certain subjectivefactors.  The categories range from “wellcapitalized” to “critically under capitalized.” Institutions that are “under capitalized” or lower are subject tocertain mandatory supervisory corrective actions.

 

The Company uses a variety of measures to evaluate its capital adequacywith risk-based capital ratios calculated separately for the Bank and theCompany.  Management reviews thesecapital measurements on a quarterly basis and takes appropriate action toensure that they are within established internal and external guidelines.  Based on current regulatory definitions, theBank is well capitalized, which is the highest rating of the categories definedunder Federal Deposit Insurance Corporation Improvement Act (FDICIA) of1991.  The Company’s current capitalposition exceeds minimum thresholds established by industry regulators.

 

The FederalDeposit Insurance Corporation (“FDIC”) has promulgated risk-based capitalguidelines for all state non-member banks such as Nevada Security Bank.  These guidelines establish a risk-adjustedratio relating capital to different categories of assets and off balance sheetexposures.  There are two categories ofcapital 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 2Capital includes preferred stock, certain types of debt equity, and theallowance for loan losses, subject to certain limitations.  At December 31, 2008 Nevada SecurityBank’s total risk-based assets were $476.8 million.  At December 31, 2007, 2006 and 2005, theCompany’s total risk-based assets were $520.4 million, $543.7 million and$516.1 million, respectively.  Thisroughly indicates the intensity of capital usage when compared to totalreported assets as noted elsewhere in the body of this report.  

 

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

 

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**Common Stock Repurchase Plan**

During December 2007,the Company’s Board of Directors approved a plan to repurchase, as conditionswarrant, up to $3.0 million of the Company’s common stock on the open market orin privately negotiated transactions. The duration of the program is open ended and the timing of thepurchases will depend upon market conditions. The shares the Company repurchases under the stock repurchase plan areheld as authorized but unissued shares. During the year ended December 31, 2008, the Company repurchased36,920 shares on the open market for an aggregate purchase price of$46,000.  There were no common stockrepurchases in 2007.  At December 31,2008, the Company had $2,954,000 remaining for the repurchase of common stockshares under the stock repurchase plan, although at this time it is unlikelythat this plan will continue in effect during 2009.

 

**Subsequent Event**

 

EffectiveMarch 11, 2009, each of Jack B. Buchold, Harold G. Giomi, John N.Donovan, David A, Funk, and Joe Bourdeau, entered into an Agreement For Termination Of Executive SupplementalCompensation And Split Dollar Agreements And Release And Waiver(“Agreement”).  Under the Agreement, eachindividual will be paid the nominal sum of $10,000 in consideration for the forfeiture of any rights under or interest in the (i) ExecutiveSupplemental Compensation Agreement, as entered into by and between NevadaSecurity Bank and him  and (ii) the SplitDollar Agreement, as entered into by and between the Nevada Security Bank and him,each of which has been previously filed. Each of the individuals further released from liability and waived anyclaims against Nevada Security Bank and The Bank Holdings.  Each of their spouses, where applicable,consented to the Agreement.  Otheremployees of Nevada Security Bank also entered into identical agreements aswell, thus terminating all Executive Supplemental Compensation Agreements andSplit Dollar Agreements to which the Bank was a party. 

 

**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 impact on the growth of total assets and theresulting need to increase equity capital at higher than normal rates in orderto maintain an appropriate equity to asset ratio.  Inflation has been minimal for the pastseveral years and as such has had little or no impact on the financialcondition and results of operations of the Company during the periods discussedherein.

 

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**Liquidity and Market Risk Management**

 

The Company must address on a daily basis the various and sundryfactors which impact its continuing operations. Three of these factors have been previously discussed:  the economic climate which encompasses ourbusiness environment, the regulatory framework that governs our practices andprocedures, and credit risk.  Thissection will address two additional risks specific to the operation of afinancial institution that also require active management; liquidity risk andmarket risk.

 

**Liquidity**

 

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 sourcesof funds to meet short-term cash needs that may result from loan growth ordeposit outflows, or other asset purchases 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. The extent to which these funds are available to meet our cash needsdetermines our liquidity.

 

Inaddition, should the need arise for immediate cash, we could sell eitherpermanently or under agreement to repurchase, those investments in ourportfolio which are not pledged as collateral to support various borrowings orthe collateralization of public deposits.

 

Theliquidity of the Company is comprised of three primary classifications:  cash flows provided by or used in operatingactivities, cash flows provided by or used in investing activities, and cashflows provided by or used in financing activities.  Net cash provided by or used in operatingactivities consists primarily of net income or loss adjusted for certainnon-cash income and expense items such as the loan loss provision, investmentand other amortizations and depreciation. For the twelve months ended December 31,2008 net cash provided by operating activities was about $3.7 million, comparedto $7.4 million used in operating activities in 2007.  The deterioration for the twelve months endedDecember 31, 2008 over the same period of 2007 was primarily the result ofthe reduction in the exchange activity and increases in the provision for loanlosses caused by the difficulties in the real estate markets in the latter partof 2008.  Similarly, the deteriorationfor the twelve months ended December 31, 2007 over the same period of 2006was primarily as a result of the reduction in the exchange activity andincreases in the provision for loan losses caused by the difficulties in thereal estate markets in the latter part of 2007.

 

Netcash provided by investing activities, consisting primarily of the activitiesof securities and loans, was approximately $34.1 million for the twelve monthsended December 31, 2008, as compared to $2.4 million for the twelve monthsended December 31, 2007. The change in investing activities for 2008 wasprimarily due to the lower loan origination activities and the shrinkage of theinvestment portfolio as a result of economic factors in local markets felt bythe Company during 2008.

 

Forthe twelve months ending December 31, 2008, the net cash used in financingactivities was $28.9 million, as compared to cash used in financing of $14.6million for the same period of 2007. This change from 2007 acknowledges balance sheet management whichreflected the cost of deposit origination in the current, competitive, economicenvironment.

 

Asof December 31, 2008, non-pledged securities comprised about $17.5 millionor 28.9% of our securities portfolio. Other forms of balance sheet liquidity on that date include vault cashand balances due from banks which totaled $21.3 million.  In addition to the liquidity inherent in ourbalance sheet, we have off-balance-sheet liquidity in the form of lines ofcredit from the Federal Home Loan Bank of San Francisco.  

 

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Availabilityon this line totaled approximately $89 million at December 31, 2008.  We manage our liquidity so as to be able to meetany unexpected sudden change in levels of assets or liabilities.  At December 31, 2007, all non-pledgedinvestments were approximately 43% of our securities portfolio.

 

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 liquidity by soliciting higher levels ofdeposit accounts through promotional activities, the use of deposit brokers, orborrowing from correspondents through drawing on its lines of credit.  At the current time, the long-term liquidityneeds of the Bank primarily relate to funds required to support loancommitments, lease obligations, certificate of deposit maturities and debtrepayment.  All of these needs cancurrently be met by cash flows from loan and investment payments and maturitiesand investment sales if needs be.

 

TheBank Holdings is a company separate and apart from Nevada Security Bank.  It must provide for its own liquidity.  The private placement which closed August 6,2006 provided equity with which it may expand its activities, support thecontinued growth of Nevada Security Bank, and the 1031 qualified intermediaryand pay for its obligations incurred during the normal course of business.

 
| ** **                       | ** ** | **Payments Due By Period** | ** ** |
|----------------------------------|------------|-------------------------------------------|------------|
| ** **                       | ** ** | **(dollars in thousands)**                | ** ** |
| **Contractual Obligations** | ** ** | **Total**                                 | ** ** | **Less Than  1 Year** | ** ** | **1-3  Years** | ** ** | **3-5  Years** | ** ** | **More Than  5 Years** | ** ** |
| Long Term Debt  Obligations      |       | 25,619                                    |       | — |   | — |   | — |   | 25,619 |   |
| Operating Lease Obligations      |       | 5,212                                     |       | 1,061 |   | 1,609 |   | 897 |   | 1,645 |   |
|                             |       |                                      |       |   |   |   |   |   |   |   |   |
| Total                            |       | 30,831                                    |       | 1,061 |   | 1,609 |   | 897 |   | 27,264 |   |

 

Long TermObligations -

NNB Trups $5,155million matures 6/15/35

TBH Trups $15,464million matures 12/15/35

 

**RecentlyIssued Accounting Pronouncements**

 

See NOTE 24 - New Accounting Standards in theaccompanying notes to consolidated financial statements included elsewhere inthis report for details of recently issued accounting pronouncements and theirexpected impact on the Company’s financial statements.

 

**ITEM 7A.               QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKETRISK**

 

**Interest Rate Risk Management**

 

Market risk arises from changes in interest rates, exchange rates,commodity prices and equity prices.  TheBank’s market risk exposure is primarily that of interest rate risk, and it hasestablished policies and procedures to monitor and limit earnings and balancesheet exposure to changes in interest rates. The Bank does not engage in trading of financial instruments, nor doesthe Bank have any exposure to exchange rates.

 

The principal objective of interest rate risk management (oftenreferred to as “asset/liability management”) is to manage the financialcomponents of the Company in a manner that will optimize the risk/rewardequation for earnings and capital in relation 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 dynamicinterest rate risk exposures than those apparent in standard re-pricing gapanalyses.

 

BancWare modeling software is used for asset/liability management inorder to simulate the effects of potential interest rate changes on the Company’sprimary subsidiary, Nevada Security Bank and its net interest margin.  These simulations can also provide bothstatic and dynamic information on the projected fair market values of the Bank’sfinancial instruments under different interest rate scenarios.  The simulation program utilizes Bank specificloan, deposit and investment data, and incorporates assumptions on there-pricing characteristics of embedded options to determine the effects of agiven interest rate change on the subsidiary Bank’s interest income andinterest expense.  Rate scenariosconsisting of key rate and yield curve projections are run against the Bank’sinvestment, loan, deposit and borrowed funds portfolios.  These rate projections can be shocked (animmediate and sustained change in rates, up or down), ramped (an incrementalincrease or decrease in rates over a specified time period), economic (based oncurrent trends and econometric models) or stable (unchanged from current actuallevels).  The Bank typically uses sevenstandard interest rate scenarios in conducting its simulations, four of whichare provided in Appendix 13.

 

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The Bank’s policy is to target the change in the Bank’s net interestincome for the next 12 months to plus or minus 7% based on a 100 basis point(b.p.) shock, plus or minus 14% based on a 200 b.p. shock, and plus or minus21% based on a 300 b.p. shock in interest rates.

 

Appendix 13 sets forth information on the Bank’s estimated net interestincome sensitivity profile as of December 31, 2008.  The table illustrates that if there were animmediate downward adjustment of 100 basis points in interest rates and theBank did nothing further with regard to the active management of its assets orliabilities, net interest income would likely increase by around $203,000, orapproximately 0.01%, over the next twelve months.  By the same token, if there were an immediateincrease of 100 basis points in interest rates, the Bank’s net interest incomewould decrease by $281,000 or 0.04% over the next year.  Management does not expect current rates tofall further over the next twelve months. While the simulations as of December 31, 2008 show potentialdeclines in net interest income in three out of the four scenarios presented,the impact on earnings is negligible. The Company’s balance sheet is fairly well insulated to interest raterisk and management is proactive in addressing the maintenance of the Company’snet interest margin.  However, thepreceding interest rate simulation model discussion does not represent afinancial forecast and should not be relied upon as being indicative of futureresults.

 

Onelesser utilized method of reviewing an institution’s likely changes in netinterest income is to analyze its “gap” position.  That is, to look at the dollar volume ofassets and liabilities with interest rates earned and paid, that will berepricing in various base periods.  Thisrepricing information is also used in 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 management focuses on the repricingcharacteristics and the maturity structure of assets and liabilities duringperiods of changes in market interest rates. Effective interest rate sensitivity management seeks to examine how andwhen assets and liabilities respond to changes in interest rates, and quantifythe impact of interest rate changes on net interest income.  Interest rate sensitivity is measured as thedifference between the volumes of assets and liabilities in our currentportfolios that are subject to repricing at various time horizons: immediate;within three months; over three to twelve months; one to five years; over fiveyears; and on a cumulative basis.  Thedifferences are known as interest rate sensitivity gaps.

 

Asshown in Appendix 14, Interest Rate Sensitivity Gap, during the first threemonths of 2009, approximately 37% of interest bearing liabilities couldreprice, compared with 35% of all interest earning assets.  This would be characterized as a positivegap, that is, more assets reprice in this period than liabilities.  A negative gap implies that more liabilities thanassets reprice in a given time frame, and the intuitive reaction would be thatin a falling rate environment, it would be more beneficial to be negativelygapped; that is, interest bearing liabilities drop in price faster thaninterest earning assets, and in a rising interest rate environment it would bebetter to have interest earning assets reprice quicker than interest bearingliabilities, thereby creating 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 portfolio repricing periods do not bringautomatic short-term increases or decreases in the net interest margin, becauserates may not be adjusted concurrently with market condition changes, and maybe “sticky” in either direction.

 

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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 interestrate spread between an asset and its supporting liability can varysignificantly while the timing of repricing for both the asset and theliability remains the same, thereby impacting net interest income.  This characteristic is referred to as basisrisk and in general relates to the possibility that the repricingcharacteristics of short-term assets tied to various indices are different fromthose 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 or pre-maturities may have asignificant impact on our net interest margin. Because of these factors, an interest rate sensitivity gap analysis maynot provide an accurate assessment of our exposure to changes in interest ratesand we use modeling software to more accurately reflect interest rate risk.

 

The economic (or “fair”) value of financial instruments on the Company’sbalance sheet will also vary under the interest rate scenarios previouslydiscussed.  Economic values for financialinstruments are estimated by discounting projected cash flows (principal andinterest) at current replacement rates for each account type, while the fairvalue of non-financial accounts is assumed to equal book value and does notvary with interest rate fluctuations.  Aneconomic value simulation is a static measure for balance sheet accounts at agiven point in time, but this measurement can change substantially over time asthe characteristics of the Company’s balance sheet evolve and as interest rateand yield curve assumptions are updated. At the current time, the Company determines the economic value of equity(“EVE”) on a quarterly basis, and has established guidelines for such variancesbased on historical economic and Company trends.

 

**Federal Taxation**

 

The Company files a consolidated federal tax return for all entities, usingthe accrual method of accounting.  Allrequired tax returns have been filed when due. Financial institutions aresubject to the provisions of the Internal Revenue Code of 1986, as amended inthe same general manner as other corporations. See NOTE 12 to the Consolidated Financial Statements for additionalinformation.

 

**State Taxation**

 

Under Nevada law, financial institutions are subject to employment andbranch location taxes but not income taxes. The employment tax is calculated 2.0% of total salaries and wages, whilethe branch location fee is $7,000 per branch location, per year.  Montana and California impose state incometaxes.  In these states the Company filesa tax return based on allocated income that is calculated pursuant to incomeallocation criteria.  These criteria are:

 

·                  Property Factor.  Real and personal property, rent or leaseexpense and loan and credit card receivables sourced on the location;

·                  Revenue Factor.  Interest, fees and penalties secured by realproperty sourced to the state where the property is located; and

·                  Payroll Factor.  Payroll consists of salaries, wages and othercompensation by state tied to Federal 940 reports or state unemploymentreports.

 

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**ITEM 8.     FINANCIAL STATEMENTS AND SUPPLEMENTARYDATA**

 

The following financial statements and independent auditors’ reportslisted below are included herein:

 
| ** ** | ** **                                                                                                        | **Page** |
|------------|-------------------------------------------------------------------------------------------------------------------|----------|
|       |                                                                                                              |     |
| I.         | Report of  Independent Registered Public Accounting Firm                                                          | 89       |
|       |                                                                                                              |     |
| II.        | Consolidated  Balance Sheets – December 31, 2008, and 2007                                              | 90       |
|       |                                                                                                              |     |
| III.       | Consolidated  Statements of Operations – (Years Ended December 31, 2008, 2007 and  2006)                | 91       |
|       |                                                                                                              |     |
| IV.        | Consolidated  Statements of Stockholders’ Equity – (Years Ended December 31, 2008,  2007 and 2006) | 92       |
|       |                                                                                                              |     |
| V.         | Consolidated  Statements of Cash Flows – (Years Ended December 31, 2008, 2007, and  2006)               | 93       |
|       |                                                                                                              |     |
| VI.        | Notes  to the Consolidated Statements                                                                             | 94       |

 

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**REPORT OF INDEPENDENT REGISTEREDPUBLIC ACCOUNTING FIRM**

 

Tothe Board of Directors and Stockholders

TheBank Holdings

 

We haveaudited the accompanying consolidated balance sheets of The Bank Holdings andSubsidiaries (the “Company”) as of December 31, 2008 and 2007 and therelated consolidated statements of operations, stockholders’ equity, and cashflows for each of the years in the three year period ended December 31,2008. These financial statements are the responsibility of the Company’smanagement. Our responsibility is to express an opinion on these financialstatements based on our audits.

 

We conductedour audits in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan andperform the audit to obtain reasonable assurance about whether the consolidatedfinancial statements are free of material misstatement. The Company is notrequired to have, nor were we engaged to perform, an audit of its internalcontrol over financial reporting.  Ouraudits 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 no such opinion.  An audit includes examining, on a test basis,evidence supporting the amounts and disclosures in the consolidated financialstatements. An audit also includes assessing the accounting principles used andsignificant estimates made by management, as well as evaluating the overallconsolidated financial statement presentation. We believe that our auditsprovide a reasonable basis for our opinion.

 

In ouropinion, the consolidated financial statements referred to above presentfairly, in all material respects, the consolidated financial position of TheBank Holdings and Subsidiaries as of December 31, 2008 and 2007, and theconsolidated results of their operations and their cash flows for each of theyears in the three year period ended December 31, 2008 in conformity withaccounting principles generally accepted in the United States of America.

 

As discussedin Notes 1 and 4 to the consolidated financial statements, effectiveJanuary 1, 2007, the Company adopted Statement of Financial AccountingStandards (SFAS)  No. 157 “FairValue Measurements” and SFAS No. 159, “The Fair Value Option for FinancialAssets and Financial Liabilities.”  Asdiscussed in Note 1 to the consolidated financial statements, effectiveJanuary 1, 2008, the Company adopted Emerging Issues Task Force (EITF)06-04 “Accounting for Deferred Compensation and Postretirement Benefit Aspectsof Endorsement Split Dollar Life Insurance Arrangements.”

 

 

/s/ MossAdams LLP

 

Stockton,California

March 31,2009

 

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**THE BANK HOLDINGS ANDSUBSIDIARIES**

**Consolidated BalanceSheets**

**(Dollars in thousands)**

** **
| ** **                                                                                                                                                        | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                        | ** ** | **2008**              | ** ** | **2007** | ** ** |
| **ASSETS:**                                                                                                                                                       |       |                  |       |   |   |
| Cash and due  from banks                                                                                                                                          |       | $                     | 21,260     |   | $ | 13,857 |   |
| Liquid money  market funds and other short term investments                                                                                                       |       | 883                   |       | 323 |   |
| Federal funds  sold                                                                                                                                               |       | 965                   |       | — |   |
| Cash and cash  equivalents                                                                                                                                        |       | 23,108                |       | 14,180 |   |
| Securities,  available for sale                                                                                                                                   |       | 1,766                 |       | 17,996 |   |
| Securities, held  to maturity (fair value at 2008: $58,228; 2007: $62,093)                                                                                        |       | 58,755                |       | 62,280 |   |
| Equity  securities, trading                                                                                                                                       |       | 83                    |       | 4,729 |   |
| Other  non-marketable equity securities, at cost                                                                                                                  |       | 4,306                 |       | 6,214 |   |
|                                                                                                                                                              |       |                  |       |   |   |
| USDA loans (at  fair value, unpaid principal $926)                                                                                                                |       | 858                   |       | 897 |   |
| Loans, gross                                                                                                                                                      |       | 440,363               |       | 473,872 |   |
| Allowance for  loan losses                                                                                                                                        |       | (8,061                | )          | (7,276 | ) |
| Deferred loan  fees, net                                                                                                                                          |       | (934                  | )          | (1,255 | ) |
| Loans, net                                                                                                                                                        |       | 432,226               |       | 466,238 |   |
|                                                                                                                                                              |       |                  |       |   |   |
| Premises and  equipment, net                                                                                                                                      |       | 7,396                 |       | 7,512 |   |
| Other real  estate owned                                                                                                                                          |       | 2,156                 |       | 800 |   |
| Bank owned life  insurance                                                                                                                                        |       | 9,833                 |       | 9,473 |   |
| Intangible  assets                                                                                                                                                |       | 951                   |       | 1,091 |   |
| Goodwill                                                                                                                                                          |       | 3,153                 |       | 29,612 |   |
| Other assets                                                                                                                                                      |       | 12,312                |       | 6,515 |   |
| **TOTAL  ASSETS**                                                                                                                                                 |       | $                     | 556,045    |   | $ | 626,640 |   |
|                                                                                                                                                              |       |                  |       |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                    |       |                  |       |   |   |
|  Deposits:                                                                                                                                                   |       |                  |       |   |   |
| Non-interest  bearing demand                                                                                                                                      |       | $                     | 52,107     |   | $ | 65,400 |   |
| Interest bearing  demand                                                                                                                                          |       | 10,775                |       | 9,432 |   |
| Savings                                                                                                                                                           |       | 15,453                |       | 39,439 |   |
| Money Market                                                                                                                                                      |       | 61,499                |       | 97,988 |   |
| IRA’s                                                                                                                                                        |       | 6,183                 |       | 4,123 |   |
| Time deposits  <$100,000                                                                                                                                       |       | 236,784               |       | 175,620 |   |
| Time deposits  >$100,000                                                                                                                                       |       | 83,211                |       | 59,333 |   |
| Total deposits                                                                                                                                                    |       | 466,012               |       | 451,335 |   |
|  Liabilities:                                                                                                                                                |       |                  |       |   |   |
| Short term  borrowed funds                                                                                                                                        |       | 22,000                |       | 62,610 |   |
| Long term  borrowed funds                                                                                                                                         |       | 5,000                 |       | 8,000 |   |
| Junior  subordinated debt                                                                                                                                         |       | 20,619                |       | 20,619 |   |
| Exchange  liabilities                                                                                                                                             |       | 200                   |       | 4,101 |   |
| Minority  shareholder interest in subsidiaries                                                                                                                    |       | —                |       | 1,095 |   |
| Accrued expenses  and other liabilities                                                                                                                           |       | 4,970                 |       | 4,043 |   |
| Total  Liabilities                                                                                                                                                |       | 518,801               |       | 551,803 |   |
|                                                                                                                                                              |       |                  |       |   |   |
|  Commitments  and contingencies (Note 14)                                                                                                                    |       |                  |       |   |   |
|                                                                                                                                                              |       |                  |       |   |   |
|  Stockholders’  Equity:                                                                                                                                 |       |                  |       |   |   |
| Preferred stock,  $0.01 par value, 20,000,000 shares authorized; no shares issued or  outstanding                                                                 |       | —                |       | — |   |
| Common stock,  $0.01 par value, 10,000,000 shares authorized; 5,794,179 and 5,831,099 issued  and outstanding as of December 31, 2008 and 2007, respectively |       | 58                    |       | 58 |   |
| Additional  paid-in capital                                                                                                                                       |       | 73,993                |       | 73,766 |   |
| Retained  earnings (deficit)                                                                                                                                      |       | (36,316               | )          | 2,139 |   |
| Accumulated  other comprehensive loss                                                                                                                             |       | (491                  | )          | (1,126 | ) |
| Total  stockholders’ equity                                                                                                                                  |       | 37,244                |       | 74,837 |   |
|  TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                                            |       | $                     | 556,045    |   | $ | 626,640 |   |

 

The accompanying notes are anintegral part of these consolidated financial statements.

 

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**THE BANK HOLDINGS AND SUBSIDIARIES**

**Consolidated Statements ofOperations**

**(Dollars in thousands, except pershare data)**

 
| ** **                                                                                  | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                  | ** ** | **2008**                                    | ** ** | **2007** | ** ** | **2006** | ** ** |
| **Interest  and dividend income:**                                                          |       |                                        |       |   |   |   |   |
| Federal funds  sold and other short term investments                                        |       | $                                           | 96         |   | $ | 806 |   | $ | 950 |   |
| Debt securities,  taxable                                                                   |       | 3,492                                       |       | 2,968 |   | 3,385 |   |
| Debt securities,  non-taxable                                                               |       | 1,132                                       |       | 775 |   | 307 |   |
| Dividends                                                                                   |       | 273                                         |       | 173 |   | 242 |   |
| Loans, including  fees                                                                      |       | 31,833                                      |       | 40,461 |   | 25,955 |   |
| Total interest  and dividend income                                                         |       | 36,826                                      |       | 45,183 |   | 31,039 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| **Interest  expense:**                                                                      |       |                                        |       |   |   |   |   |
| Deposits                                                                                    |       | 14,475                                      |       | 19,059 |   | 12,881 |   |
| Other borrowed  funds                                                                       |       | 3,015                                       |       | 3,905 |   | 2,202 |   |
| Total interest  expense                                                                     |       | 17,490                                      |       | 22,964 |   | 15,083 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| **Net  interest income before provision for loan losses**                                   |       | 19,336                                      |       | 22,219 |   | 15,956 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| Provision for  loan losses                                                                  |       | 4,025                                       |       | 3,007 |   | 771 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| Net interest  income after provision for loan losses                                        |       | 15,311                                      |       | 19,212 |   | 15,185 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| **Non-interest  income:**                                                                   |       |                                        |       |   |   |   |   |
| Service charges  on deposit accounts                                                        |       | 617                                         |       | 425 |   | 261 |   |
| Other service  charges, commissions and fees                                                |       | 240                                         |       | 381 |   | 190 |   |
| Income on bank  owned life insurance                                                        |       | 360                                         |       | 393 |   | 307 |   |
| Exchange fee  income                                                                        |       | 82                                          |       | 163 |   | 448 |   |
| Net (loss) gain  on trading securities                                                      |       | (997                                        | )          | 118 |   | 443 |   |
| Unrealized gain  (loss) on fair value loans                                                 |       | 10                                          |       | (77 | ) | — |   |
| Realized gain on  sale of fair value loans                                                  |       | —                                      |       | 5 |   | — |   |
| Realized loss on  other real estate owned                                                   |       | (194                                        | )          | — |   | — |   |
| Realized (loss)  gain on sale of fixed assets                                               |       | (57                                         | )          | 11 |   | 2 |   |
| Realized (loss)  gain on sale of investment securities                                      |       | (1,907                                      | )          | 3 |   | 31 |   |
| Impairment  charges on investment securities                                                |       | (13,467                                     | )          | — |   | — |   |
| Total  non-interest income                                                                  |       | (15,313                                     | )          | 1,422 |   | 1,682 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| **Non-interest  expense:**                                                                  |       |                                        |       |   |   |   |   |
| Salaries and  employee benefits                                                             |       | 9,493                                       |       | 9,566 |   | 7,617 |   |
| Occupancy and  equipment                                                                    |       | 2,739                                       |       | 2,709 |   | 1,921 |   |
| Marketing                                                                                   |       | 529                                         |       | 866 |   | 527 |   |
| Data Processing                                                                             |       | 538                                         |       | 629 |   | 960 |   |
| Deposit and loan  servicing costs                                                           |       | 1,641                                       |       | 1,018 |   | 604 |   |
| Accounting legal  and tax                                                                   |       | 907                                         |       | 880 |   | 371 |   |
| Other  professional services                                                                |       | 452                                         |       | 618 |   | 199 |   |
| Telephone and  data communications                                                          |       | 599                                         |       | 555 |   | 305 |   |
| Goodwill  impairment                                                                        |       | 26,911                                      |       | — |   | — |   |
| Other expenses                                                                              |       | 601                                         |       | 1,466 |   | 1,078 |   |
| Total  non-interest expenses                                                                |       | 44,410                                      |       | 18,307 |   | 13,582 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| Net (loss) income  before income tax (benefit) provision and Minority Shareholder interests |       | (44,412                                     | )          | 2,327 |   | 3,285 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| Minority  Shareholders share of net (loss)/income of subsidiaries                           |       | —                                      |       | (27 | ) | 127 |   |
| Income tax  provision (benefit)                                                             |       | (7,028                                      | )          | 625 |   | 1,075 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| NET (LOSS) INCOME                                                                           |       | $                                           | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   |
|                                                                                        |       |                                        |       |   |   |   |   |
| Net (loss) earnings  per share:                                                             |       |                                        |       |   |   |   |   |
| Basic                                                                                       |       | (6.41                                       | )          | 0.30 |   | 0.51 |   |
| Diluted                                                                                     |       | (6.41                                       | )          | 0.29 |   | 0.49 |   |

 

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

 

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THE BANK HOLDINGS AND SUBSIDIARIES

Consolidated Statements ofStockholders’ Equity

For the Years Ended December 31, 2008,2007 and 2006

 
| ** **                                                                               | ** ** | **Comprehensive  Income/Loss**                                     | ** ** | **Shares of  Common  Stock** | ** ** | **Common  Stock** | ** ** | **Additional  Paid-in  Capital** | ** ** | **Retained  Earnings  (Deficit)** | ** ** | **Accumulated  Other  Comprehensive  Loss** | ** ** | **Treasury  Stock** | ** ** | **Total** | ** ** |
|------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|-----------------------------------|------------|-------------------|------------|----------------------------------|------------|-----------------------------------|------------|---------------------------------------------|------------|---------------------|------------|-----------|------------|
| ** **                                                                               | ** ** | **(in thousands, except per share data)** | ** ** |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| **Balance  at December 31, 2005**                                                   |       |                                                               |       | 3,124,266                         |       | $                 | 30         |                             | $          | 30,431                            |       | $                                           | (1,205     | )                   | $          | (554      | )          | $ | — |   | $ | 28,702 |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Stock Options  exercised                                                                 |       |                                                               |       | 20                                |       |              |       | 11                               |       |                              |       |                                        |       |                |       | 11        |       |
| Shares issued for  merger                                                                |       |                                                               |       | 1,426,208                         |       | 14                |       | 27,569                           |       |                              |       |                                        |       |                |       | 27,583    |       |
| Warrants  exercised                                                                      |       |                                                               |       | 323,738                           |       | 3                 |       | 3,386                            |       |                              |       |                                        |       |                |       | 3,389     |       |
| Private placement                                                                        |       |                                                               |       | 678,740                           |       | 7                 |       | 11,532                           |       |                              |       |                                        |       |                |       | 11,539    |       |
| Stock dividend                                                                           |       |                                                               |       | 278,127                           |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net income                                                                               |       | $                                                                  | 2,083      |                              |       |              |       |                             |       |                              | 2,083      |                                        |       |                |       |      | 2,083      |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Compensation  expense related to stock options                                           |       |                                                               |       |                              |       |              |       | 416                              |       |                              |       |                                        |       |                |       | 416       |       |
| Unrealized  minimum projected benefit obligation of defined benefit plan                 |       |                                                               |       |                              |       |              |       |                             |       |                              |       | (522                                        | )          |                |       | (522      | )          |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Other  comprehensive income:                                                             |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Unrealized  holding gain on securities available for sale arising during the year        |       | 400                                                                |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Less  reclassification adjustment for gains included in net income                       |       | (33                                                                | )          |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net unrealized  holding gains                                                            |       | 367                                                                |       |                              |       |              |       |                             |       |                              |       | 367                                         |       |                |       | 367       |       |
| Comprehensive  Income                                                                    |       | $                                                                  | 2,450      |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| **Balance  at December 31, 2006**                                                   |       |                                                               |       | 5,831,099                         |       | $                 | 54         |                             | $          | 73,345                            |       | $                                           | 878        |                | $          | (709      | )          | $ | — |   | $ | 73,568 |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Adoption of fair  value option                                                           |       |                                                               |       |                              |       |              |       |                             |       | (464                              | )          |                                        |       |                |       | (464      | )          |
| Stock dividend  February 15, 2007                                                   |       |                                                               |       |                              |       | 4                 |       |                             |       | (4                                | )          |                                        |       |                |       |      |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net income                                                                               |       | $                                                                  | 1,729      |                              |       |              |       |                             |       |                              | 1,729      |                                        |       |                |       |      | 1,729      |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Compensation  expense related to stock options                                           |       |                                                               |       |                              |       |              |       | 421                              |       |                              |       |                                        |       |                |       | 421       |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Other  comprehensive loss:                                                               |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Unrealized  holding loss on securities available for sale arising during the year        |       | (398                                                               | )          |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Less  reclassification adjustment for gains included in net income                       |       | (19                                                                | )          |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net unrealized  holding losses                                                           |       | (417                                                               | )          |                              |       |              |       |                             |       |                              |       | (417                                        | )          |                |       | (417      | )          |
| Comprehensive  Income                                                                    |       | $                                                                  | 1,312      |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| **Balance  at December 31, 2007**                                                   |       |                                                               |       | 5,831,099                         |       | $                 | 58         |                             | $          | 73,766                            |       | $                                           | 2,139      |                | $          | (1,126    | )          | $ | — |   | $ | 74,837 |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Cumulative effect  of adoption of EITF 06-04, net of tax                                 |       |                                                               |       |                              |       |              |       |                             |       | (1,071                            | )          |                                        |       |                |       | (1,071    | )          |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Purchase of  treasury stock                                                              |       |                                                               |       | (36,920                           | )          |              |       |                             |       |                              |       |                                        |       | (46                 | )          | (46       | )          |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Retirement of  treasury stock                                                            |       |                                                               |       |                              |       |              |       | (46                              | )          |                              |       |                                        |       | 46                  |       |      |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net loss                                                                                 |       | $                                                                  | (37,384    | )                                 |       |              |       |                             |       |                              | (37,384    | )                                           |       |                |       |      | (37,384    | ) |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Compensation  expense related to stock options                                           |       |                                                               |       |                              |       |              |       | 273                              |       |                              |       |                                        |       |                |       | 273       |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Amortization of  unrealized minimum projected benefit obligation of defined benefit plan |       |                                                               |       |                              |       |              |       |                             |       |                              |       | 65                                          |       |                |       | 65        |       |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Other  comprehensive loss:                                                               |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Unrealized  holding loss on securities available for sale arising during the year        |       | (14,804                                                            | )          |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Less  reclassification adjustment for losses included in net income                      |       | 15,374                                                             |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| Net unrealized  holding gains                                                            |       | 570                                                                |       |                              |       |              |       |                             |       |                              |       | 570                                         |       |                |       | 570       |       |
| Comprehensive Loss                                                                       |       | $                                                                  | (36,814    | )                                 |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |   |
|                                                                                     |       |                                                               |       |                              |       |              |       |                             |       |                              |       |                                        |       |                |       |      |       |
| **Balance  at December 31, 2008**                                                   |       |                                                               |       | 5,794,179                         |       | $                 | 58         |                             | $          | 73,993                            |       | $                                           | (36,316    | )                   | $          | (491      | )          | $ | — |   | $ | 37,244 |   |

 

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

 

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THE BANK HOLDINGS AND SUBSIDIARIES

Consolidated Statement ofCash Flows

(Dollars in thousands)

 
| ** **                                                                               | ** ** | **Periods Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                               | ** ** | **2008**                                      | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from operating activities:**                                               |       |                                          |       |   |   |   |   |
| Net (loss)  income                                                                       |       | $                                             | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   |
| Adjustments to  reconcile net income to cash provided by (used in) operating activities: |       |                                          |       |   |   |   |   |
| Provision for  loan losses                                                               |       | 4,025                                         |       | 3,007 |   | 771 |   |
| Stock option  compensation expense                                                       |       | 273                                           |       | 421 |   | 417 |   |
| Net amortization  of securities                                                          |       | 201                                           |       | 355 |   | 167 |   |
| Depreciation                                                                             |       | 517                                           |       | 1,025 |   | 650 |   |
| Activity of  trading securities, net                                                     |       | (4,737                                        | )          | 520 |   | (2,507 | ) |
| Unrealized gain  on trading securities                                                   |       | 1,131                                         |       | (118 | ) | (443 | ) |
| Unrealized  (gain)/loss on loans carried at fair value                                   |       | (10                                           | )          | 77 |   | — |   |
| (Loss)/income  attributable to minority shareholders                                     |       | —                                        |       | (27 | ) | 127 |   |
| Activity of  exchange assets, net                                                        |       | (3,901                                        | )          | (9,189 | ) | 13,290 |   |
| Realized  loss/(gain) on sales of fixed assets, net                                      |       | 57                                            |       | (11 | ) | — |   |
| Realized loss on  sales of fair value loans                                              |       | —                                        |       | 5 |   | — |   |
| Realized  loss/(gain) on sales of available for sale securities, net                     |       | 13,362                                        |       | (3 | ) | (31 | ) |
| Impairment of  Goodwill                                                                  |       | 26,911                                        |       |   |   |   |   |
| Net change in:                                                                           |       |                                          |       |   |   |   |   |
| Other assets and  liabilities, net                                                       |       | 3,278                                         |       | (5,148 | ) | (3,057 | ) |
| **Net  cash (used in) provided by operating activities**                                 |       | 3,723                                         |       | (7,357 | ) | 11,467 |   |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from investing activities:**                                               | ** ** | ** **                                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| Activity in  available for sale securities:                                              |       |                                          |       |   |   |   |   |
| Proceeds from  sales, maturities, prepayments and calls                                  |       | 19,989                                        |       | 6,177 |   | 8,534 |   |
| Purchases                                                                                |       | (16,679                                       | )          | (9,418 | ) | (4,827 | ) |
| Activity of  securities held to maturity:                                                |       |                                          |       |   |   |   |   |
| Proceeds from  sales, maturities, prepayments and calls                                  |       | 32,409                                        |       | 22,033 |   | 15,336 |   |
| Purchases                                                                                |       | (32,922                                       | )          | (7,848 | ) | (27,764 | ) |
| Activity in non-marketable  equity securities, net                                       |       | 1,907                                         |       | 1,464 |   | (1,175 | ) |
| Investment in  non-bank subsidiaries, net                                                |       | (1,040                                        | )          | (358 | ) | (3,772 | ) |
| Decrease  (increase) in bank owned life insurance                                        |       | (276                                          | )          | 2,395 |   | (2,172 | ) |
| Loan  originations and principal collections, net                                        |       | 31,442                                        |       | (11,498 | ) | (95,714 | ) |
| Cash and  equivalents acquired in acquisitions, net of cash paid                         |       | —                                        |       | — |   | 13,487 |   |
| Purchases of  premises and equipment, net                                                |       | (692                                          | )          | (551 | ) | (936 | ) |
| **Net cash  used in investing activities**                                               |       | 34,138                                        |       | 2,396 |   | (98,953 | ) |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from financing activities:**                                               | ** ** | ** **                                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net (decrease)  increase in deposits                                                     |       | 14,677                                        |       | (45,662 | ) | 32,470 |   |
| (Payment of) Proceeds  from other borrowed funds, net                                    |       | (43,610                                       | )          | 31,080 |   | 31,530 |   |
| Proceeds from  private placement                                                         |       | —                                        |       | — |   | 11,539 |   |
| Proceeds from  exercise of stock warrants                                                |       | —                                        |       | — |   | 3,389 |   |
| Proceeds from  exercise of stock options                                                 |       | —                                        |       | — |   | 10 |   |
| **Net  cash (used in) provided by financing activities**                                 |       | (28,933                                       | )          | (14,582 | ) | 78,938 |   |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Net  change in cash and cash equivalents**                                             |       | 8,928                                         |       | (19,543 | ) | (8,548 | ) |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  and cash equivalents at beginning of the period**                                |       | 14,180                                        |       | 33,723 |   | 42,271 |   |
| **Cash  and cash equivalents at the end of the period**                                  |       | $                                             | 23,108     |   | $ | 14,180 |   | $ | 33,723 |   |
|                                                                                     |       |                                          |       |   |   |   |   |
| Supplementary  cash flow information:                                                    |       |                                          |       |   |   |   |   |
| Interest paid on  deposits and borrowed funds                                            |       | $                                             | 17,490     |   | $ | 23,517 |   | $ | 15,083 |   |
| Cash paid on  income taxes                                                               |       | 885                                           |       | 1,319 |   | — |   |

 

Non-Cash Items:

For year end December 31, 2007, the Companyadopted FAS 159 and recorded a non-cash decrease to certain USDA and SBA loansof $736,000, a decrease to retained earnings of $464,000 and an increase ofdeferred taxes of $272,000.

 

The accompanying notes are an integral part of these consolidated financialstatements.

 

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**THE BANK HOLDINGS**

**Notes to Consolidated FinancialStatements**

**December 31, 2008**

 

**NOTE 1 – BASIS OF PRESENTATIONAND NATURE OF OPERATIONS**

 

***Principlesof Consolidation and Basis of Presentation***

 

On July 9, 2003, thestockholders of Nevada Security Bank approved the exchange of their commonstock in Nevada Security Bank for common stock in the newly formed holdingcompany, The Bank Holdings.  Thistransaction was consummated on August 29, 2003 and was accounted for athistorical cost. The consolidated financial statements include the accounts ofThe Bank Holdings and its wholly-owned subsidiaries, Nevada Security Bank,Rocky Mountain Exchange and Granite Exchange. Nevada Security Bank was organized on February 26, 2001 and openedfor business on December 27, 2001. Rocky Mountain Exchange (formerly BigSky Property Exchange) and Granite Exchange were both purchased during March 2006.  The Company closed the Rocky MountainExchange office located in Bozeman Montana effective July 31, 2008.  All significant inter-company balances andtransactions have been eliminated in consolidation.

 

In accordance with theprovisions of Financial Accounting Standards Board (“FASB”) interpretation No. 46*Consolidation of Variable Interest Entities,*theCompany’s investment in The Bank Holdings Statutory Trust I, and NNB HoldingsStatutory Trust I, are not consolidated and they are accounted for under theequity method and included in other assets on the consolidated balancesheet.  The subordinated debenturesissued and guaranteed by the Company and held by the Trusts are reflected onthe Company’s consolidated balance sheet.

 

***Natureof Banking Activities***

 

TheBank Holdings is a bank holding company incorporated in Nevada on January 17,2003 and registered under the Bank Holding Company Act of 1956, asamended.  We conduct banking operationsthrough our principal subsidiary, Nevada Security Bank, a Nevadastate-chartered commercial bank.  We andNevada Security Bank are both headquartered in Reno, Nevada at 9990 Double RBoulevard.  We acquired all of theoutstanding shares of Nevada Security Bank on August 29, 2003.  On November 6, 2006, the Companyacquired NNB Holdings, Inc. in Reno, Nevada and its subsidiary bankNorthern Nevada Bank whose branches became part of Nevada Security Bank.

 

Duringthe first quarter of 2006, the Company acquired two qualified intermediary (the“QI”) companies, Rocky Mountain Exchange (formerly known as Big Sky PropertyExchange) and Granite Exchange, Inc. which facilitate tax-deferred realestate transactions under Section 1031 of the Internal Revenue Code.  Rocky Mountain Exchange was located inBozeman, Montana, and Granite Exchange is headquartered in Roseville,California.  The Company closedthe Rocky Mountain Exchange office effective July 31, 2008.  Qualifiedintermediaries select the financial institution to hold depositor accountscreated as part of the exchange transactions. The exchange balances deposited into the Bank should increase the Bank’score deposits, decrease the Bank’s loan to deposit ratio, and support futureloan growth.  These subsidiaries havebeen consolidated on the Company’s books.

 

TheCompany’s other direct subsidiaries are The Bank Holdings Statutory Trust I, aConnecticut statutory trust which was formed in November, 2005 solely tofacilitate the issuance of variable rate capital trust pass through securitiesand NNB Holdings Statutory Trust I which was formed in June 2005, and wasacquired by the Company in the merger with NNB Holdings, Inc.  This additional regulatory capital hasenabled the Company to follow previously established expansion plans without animpairment of risk-based capital ratios. Pursuant to FASB Interpretation No. 46 *Consolidationof Variable Interest Entities*(FIN 46R),**TheBank Holdings Statutory Trust**I and NNBHoldings Statutory Trust I are not reflected on a consolidated basis in thefinancial statements of the Company.

 

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These entities arecollectively referred to herein as the Company. Segment information is presented in NOTE 20.  The accounting and reporting policies of theCompany conform to accounting principles generally accepted in the UnitedStates of America and general practices within the banking industry.

 

***Useof Estimates***

In preparing consolidatedfinancial statements in conformity with generally accepted accountingprinciples in the United States of America and general practices within thebanking industry, management is required to make estimates and assumptions thataffect the reported amount of assets and liabilities as of the date of thebalance sheet and reported amounts of revenues and expenses during thereporting period.  Actual results coulddiffer from those estimates.  Materialestimates that are particularly susceptible to significant change in the nearterm relate to the determination of the allowance for loan losses, materialestimates that are susceptible to substantial change over the longer termrelate to the determination of loan origination costs, equity-basedcompensation, goodwill and income taxes.

 

***Cashand Cash Equivalents***

For purposes of theconsolidated statements of cash flows, cash and cash equivalents include cashon hand, demand amounts due from banks (including cash items in the process ofclearing), liquid money market funds and federal funds sold.  Cash flows from loans, deposits, and proceedsfrom issuance of common stock are reported net. The Company maintains amounts on account with other institutions which,at times, may exceed federally insured limits. A significant concentration exists with relation to deposits held atPacific Coast Bankers’ Bank, Nevada Security Bank’s primary correspondent bank.A significant concentration exists with relation to deposits held at NevadaSecurity Bank as depository for the Company’s 1031 QI’s.  The Company has not experienced any losses onany such accounts.

 

***Securities***

Debt securities thatmanagement has the positive intent and ability to hold to maturity areclassified as “held to maturity” and recorded at amortized cost.  Securities not classified as held to maturityincluding equity securities with readily determinable fair values, areclassified as “available for sale” and are recorded at fair value, withunrealized gains and losses excluded from earnings and reported in othercomprehensive income.  Gains and losseson the sale of securities are recorded on the trade date and are determinedusing the specific identification method.

 

Management determines theappropriate classification of its investments at the time of purchase and mayonly change the classification under certain limited circumstances. Anytransfers between categories would be accounted for at fair value.

 

Purchase premiums anddiscounts are recognized in interest income using the interest method over theestimated life of the securities.

 

***OtherThan Temporary Impairment of Investment Securities***

Securities are evaluated quarterly to determinewhether a decline in their value is other than temporary. Management utilizescriteria such as the magnitude and duration of the decline, in addition to thereasons underlying the decline, to determine whether the loss in value is otherthan temporary, such as the ability to collect amounts due per the contractualterms of the investment security agreement. The term “other than temporary” isnot intended to indicate that the decline in value is permanent. It indicatesthat the prospects for a near term recovery of value are not necessarilyfavorable, or that there is a lack of evidence to support fair values equal to,or greater than, the carrying value of the investment. Once a decline in valueis determined to be other than temporary, the value of the security is reducedand a corresponding charge to earnings is recognized.  There were significant impairments taken forthe year ending December 31, 2008. See NOTE 5 – Securities.

 

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***TradingAccount & Derivative Financial Instruments***

The Company’s “tradingaccount” consists of specific equity investments that are carried at marketvalue and separately reported in NOTE 5 - Securities.  Unrealized gains and losses are included inearnings as non-interest income.  Gainsand losses on the sale of equities are recorded on the trade date and are determinedusing the specific identification method.

 

The Company has a policythat provides for the use of derivative financial instruments held or issuedfor “trading account” purposes.  Theseinstruments are utilized for risk management purposes, and are measured atmarket value with gains or losses represented in earnings.  Equity investments comprise the major portionof “trading account” assets. “Derivative financial instruments” are exchangetraded covered call options written on some, but not all, of such equityinvestments.  These options are carriedat market value and are recorded in other liabilities.  None existed as of December 31, 2008 or2007.

 

***Loans***

The Company grants realestate, commercial and consumer loans to customers.  A substantial portion of the loan portfoliois represented by real estate loans throughout northern Nevada and northernCalifornia.  The ability of the Company’sborrowers to honor their contracts is dependent upon the real estate andgeneral economic conditions in these areas.

 

Loans are reported attheir outstanding unpaid principal balances reduced by the allowance for loanlosses, and any deferred fees or costs on originated loans.  Interest income is accrued on the unpaidprincipal balance.

 

Loan origination fees,net of certain deferred origination costs and purchase premiums and discountsare recognized as an adjustment to yield of the related loans over thecontractual life of the loan using both the effective interest and straightline method, based on the loan type.

 

***Allowancefor Loan Losses***

The allowance for loanlosses is established through a provision for loan losses charged toexpense.  Loan losses are charged againstthe allowance when management believes the collection of a loan balance isunlikely.  Subsequent recoveries, if any,are credited to the allowance.

 

The allowance for loanlosses is evaluated on a regular basis by management and is based uponmanagement’s 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, estimatedvalue of any underlying collateral and prevailing economic conditions.  This evaluation is inherently subjective asit requires estimates that may be susceptible to significant revision as moreinformation becomes available.

 

The allowance consists ofspecific and general components.  Thespecific component relates to loans that are impaired which are also classifiedas doubtful or substandard.  For suchloans an allowance is established when the discounted cash flows (or collateralvalue or observable market price) of the impaired loan is lower than thecarrying value of that loan.  The generalcomponent covers non-impaired loans and is based on Company historical, otherNevada banks, and Uniform Bank Performance Report peer bank loss experienceadjusted for qualitative factors.

 

A loan is consideredimpaired when, based on current information and events, it is probable that theCompany will be unable to collect the scheduled payments of principal orinterest when due according to the contractual terms of the loanagreement.  Factors considered bymanagement in determining impairment include payment status, collateral value,and the probability of collecting scheduled principal and interest paymentswhen due. Loans that experience insignificant payment delays and paymentshortfalls generally are not classified as impaired.

 

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Management determines thesignificance of payment delays and payment shortfalls on a case-by-case basis,taking into consideration all of the circumstances surrounding the loan and theborrower, including the length of the delay, the reasons for the delay, theborrower’s prior payment record, and the amount of the shortfall in relation tothe principal and interest owed. Impairment is measured on a loan by loan basis for commercial andconstruction loans by either the present value of expected future cash flowsdiscounted at the loan’s effective interest rate, the loan’s obtainable marketprice, or the fair value of the collateral if the loan is collateral dependent.

 

Large groups of smallerbalance homogeneous loans are collectively evaluated for impairment.  Accordingly, the Company does not separatelyidentify individual consumer and residential loans for impairment disclosures,unless such loans are the subject of a restructuring agreement.

 

***Transfers of Financial Assets***

Transfers of financialassets are accounted for as sales, when control over the assets has beensurrendered.  Control over transferredassets is deemed to be surrendered when (1) the assets have been isolatedfrom the Company, (2) the transferee obtains the right (free of conditionsthat constrain it from taking advantage of that right) to pledge or exchangethe transferred assets, and (3) the Company does not maintain effectivecontrol over the transferred assets through an agreement by both entities thatobligates the Company to repurchase them before their maturity.

 

***Premisesand Equipment***

Premises and equipmentare carried at cost, less accumulated depreciation computed on thestraight-line method over the following estimated lives of the assets.

 
| Buildings               |   | 39 years          |
|-------------------------|--------|-------------------|
| Furniture and Equipment |   | 3 – 20 years |
| Automobiles             |   | 3 years           |

 

Amortization of leaseholdimprovements is computed principally by the straight line method over the termof the lease or the estimated useful life of the assets, whichever isshorter.  Amortization expense on assetsacquired under capital leases, which are being amortized over the lease terms,is included with depreciation expense on owned assets.  There are no capital leases outstanding as ofDecember 31, 2008.

 

***OtherReal Estate Owned***

Assets acquired throughor instead of loan foreclosure are held for sale and are initially recorded atfair value less estimated selling costs when acquired, establishing a new costbasis. Costs after acquisition are generally expensed. If the fair value of theasset declines, a write-down is recorded through expense. The valuation offoreclosed assets is subjective in nature and may be adjusted in the futurebecause of changes in economic conditions. Other real estate owned totaled$2.2 million and $800,000 at December 31, 2008 and 2007,respectively.

 

***Goodwill andIntangible Assets***

For acquisitions, theCompany records the assets acquired, including identified intangible assets,and liabilities assumed at their fair value, which in many instances involvesestimates based on third party valuations, such as appraisals, or valuationsbased on discounted cash flow analyses or other valuation techniques. Thedetermination of the useful lives of intangible assets is subjective, as is theappropriate amortization period for such intangible assets. These estimatesalso include the establishment of various accruals and allowances based onplanned facilities dispositions and employee severance considerations, amongother acquisition-related items. In addition, purchase acquisitions typicallyresult in goodwill, which

 

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represents the excess ofthe purchase price over the fair value of the net assets acquired by theCompany. The Company tests goodwill annually for impairment. Such tests involvethe use of estimates and assumptions. See NOTE 9 – Goodwill.  Intangible assets other than goodwill, suchas deposit-based intangibles which are determined to have finite lives, areamortized over their estimated useful lives, which is approximately seven (7) years.  See NOTE 8 – Intangible Assets.

 

***Non-Marketable Securities***

Non-marketable securitiesare included in other equity securities on the balance sheet.  These securities include debt and equityinvestments acquired for various regulatory, investment and other purposes.  These securities are recorded at cost as webelieve that the cost of these investments is initially the best indication ofestimated fair value unless there have been significant subsequent negativedevelopments that justify an adjustment. The Bank is a member of the Federal Home Loan Bank (FHLB) system and isrequired 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 theFHLB stock equals its fair value because the shares can only be redeemed by theFHLB at the $100 per share par value (see Item 7, Management’s Discussion andAnalysis of Financial Condition and Results of Operations – InvestmentPortfolio).  The Bank also has aninvestment in Pacific Coast Bankers’ Bancshares (PCBB), its correspondent bank,to facilitate transactions between the two companies.  The Bank has a small investment in aninsurance company that provides workman’s compensation insurance to thebank.  The Company has made someadditional equity investments in its qualified intermediaries and has a smallinvestment in Carson River Community Bank which was opened during 2006.

 

***Interest and fees on loans***

Intereston loans is recognized over the terms of the loans and is calculated under theeffective interest method.  The accrualof interest on impaired loans is discontinued when, in management’s opinion,the borrower may be unable to make payments as they become due.

 

The Company determines aloan to be delinquent when payments have not been made according to contractualterms, typically evidenced by nonpayment of a monthly installment by the duedate.  The accrual of interest on loansis discontinued at the time the loan is 90 days delinquent unless the credit iswell secured and in the process of collection. Personal loans are typically charged off no later than 180 daysdelinquent.

 

All interest accrued butnot collected for loans that are placed on non-accrual is reversed againstinterest income.  The interest on theseloans is accounted for on the cash-basis or cost-recovery method, untilqualifying for return to accrual.  Loansare returned to accrual status when all the principal and interest amountscontractually due are brought current and future payments are reasonably assured.

 

Loan origination andcommitment fees and certain direct loan origination costs are deferred and thenet amount amortized as an adjustment to the related loan’s yield.  The Bank is generally amortizing theseamounts over the contractual life of the loan. Commitment fees, based upon a percentage of a customer’s unused line ofcredit, and fees related to standby letters of credit are recognized over thecommitment period.

 

***Pre-underwritingfees***

The Company hasagreements with third parties under which the Company performs certain pre-underwritingactivities on SBA loans which are funded by the third party. These activitiesare conducted in the Silverado Bank division. The Company is required to refund any fee paid, in the event ofdelinquency, default, or early payoff during the first six months of the loanterm.  Management records a liabilityequal to 100% of the fee at the date the fee is received, less any commissions,fees or incentives paid to individuals involved in the transaction.  This liability is reduced ratably over thesix month contingency period.  There wereno such fees taken during the year ended December 31, 2008 or 2007.

 

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***Income Taxes***

TheCompany periodically reviews the carrying amount of its deferred tax assets todetermine if the establishment of a valuation allowance is necessary. If, basedon the available evidence, it is more likely than not that all or a portion ofthe Company’s deferred tax assets will not be realized, a deferred taxvaluation allowance would be established. Consideration is given to allpositive and negative evidence related to the realization of the deferred taxassets.

 

Inevaluating the available evidence, management considers historical financialperformance, expectation of future earnings, length of statutory carry forwardperiods, experience with operating loss and tax credit carry forwards notexpiring unused, tax planning strategies and timing of reversals of temporarydifferences. Significant judgment is required in assessing future earningstrends and the timing of reversals of temporary differences. The Company’sevaluation is based on current tax laws as well as management’s expectations offuture performance based on its strategic initiatives.  Changes in existing tax laws and futureresults differing from expectations may result in significant changes in anyneeded deferred tax assets valuation allowance. Although realization is notassured, management believes it is more likely than not that all of thedeferred tax assets will be realized.

 

The Company accounts for uncertain tax positions in accordance with FIN48. An uncertain tax position is defined by FIN 48 as a position in apreviously filed tax return or a position expected to be taken in a future taxreturn that is not based on clear and unambiguous tax law and which isreflected in measuring current or deferred income tax assets and liabilitiesfor interim or annual periods. The application of income tax law is inherentlycomplex. The Company is required to determine if an income tax position meetsthe criteria of more-likely-than-not to be realized based on the merits of theposition under tax laws, in order to recognize an income tax benefit. Thisrequires the Company to make many assumptions and judgments regarding merits ofincome tax positions and the application of income tax law. Additionally, if atax position meets the recognition criteria of more-likely-than-not the Companyis required to make judgments and assumptions to measure the amount of the taxbenefits to be recognized based on the probability of the amount of taxbenefits that would be realized if the tax position was challenged by thetaxing authorities. Interpretations and guidance surrounding income tax lawsand regulations change over time. As a consequence, changes in assumptions andjudgments can materially affect amounts recognized in the consolidatedstatements of financial condition and the consolidated statements ofoperations.

 

The Company files itsincome taxes on a consolidated basis. The allocation of income tax expense represents each entity’sproportionate share of the consolidated provision for taxes.  Deferred income tax assets and liabilitiesare determined using the liability (or balance sheet) method.  Under this method, the net deferred tax assetor liability is determined based on the tax effects of the temporarydifferences between the book and tax bases of the various balance sheet assetsand liabilities and gives current recognition to changes in tax rates andlaws.  Therefore, deferred taxes arerecognized for the tax consequences of temporary differences by applyingenacted statutory tax rates applicable to future years to differences betweentax and financial statement carrying amounts and the basis of existing assetsand liabilities.  The effect on deferred taxes of a change in tax rates would berecognized in income in the period that includes the enactment date.

 

The Company sets aside a provision for income taxes on a monthlybasis.  The amount of the tax provision is determined by applying theCompany’s statutory income tax rates to pre-tax book income, adjusted forpermanent differences between pre-tax book income and actual taxableincome.  Such permanent differences include but are not limited totax-exempt interest income; increases in the cash surrender value of bank-ownedlife insurance, certain expenses that are not allowed as tax deductions, andtax credits.

 

***SalaryContinuation Plan***

The Company has initiatedaction to provide certain key executives, or their designated beneficiaries,with annual benefits after retirement, until death.  These benefits would be substantiallyequivalent to those available under split-dollar life insurance policiespurchased by the Company on the lives of such key executives.  The Company has completed the final plan andagreements, and has accrued for these future benefits from the date of theplan.  At the consolidated balance sheetdate, the amount of accrued benefits equals the then present value of thebenefits expected to be provided to the key executives or their beneficiaries,in exchange for the executives’ services to that date.

 

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In 2005, the Companyentered into salary continuation agreements with certain executiveofficers.  The plans provide for annuallifetime benefits.  The Plan, which istreated as a defined benefit plan, gave rise to prior service costs and anattendant deferred tax asset of $1.2 million as of January 1, 2005, whichis being amortized on a straight line basis over an estimated average servicelife of eleven years.  As of December 31,2008, the total unrecognized prior service costs were $726,000 which is nowsubject to treatment under FAS No. 158 as Other Comprehensive Expense.

 

The benefit obligationunder the plan totaled $3.2 million for the year ended December 31, 2008and $2.6 million for the same period in 2007. The benefit obligation under the plan totaled $2.0 million for the yearended December 31, 2006 and $1.5 million for the same period in 2005.

 

In connection with theseplans, the Company holds single premium life insurance policies (BOLI) withcash surrender values totaling $9.8 million and $9.5 million at December 31,2008 and 2007, respectively.

 

During 2007, the Company liquidated $3.4 million of bank owned lifeinsurance that had been acquired in the merger with Northern Nevada Bank.

 

***Officerand Director Deferred Compensation Plan***

The Company hasestablished a deferred compensation plan for certain members of the managementgroup and deferred fee plan for directors for the purpose of providing theopportunity for participants to defer compensation.  The Company bears the costs for the plan’sadministration.  The related expense wasnot material for the years ended December 31, 2008, 2007, and 2006.  In connection with this plan, life insurancepolicies were purchased with cash surrender values totaling $439,000, $584,000and $468,000 at December 31, 2008, 2007 and 2006, respectively, which areincluded on the consolidated balance sheet in other assets.

 

InSeptember 2006, the Emerging Issues Task Force (“EITF”) ratified EITFissue 06-04, “*Accounting for Deferred Compensation andPostretirement Benefit Aspect of Endorsement Split-Dollar Life InsuranceArrangements”.*   This rulingprovides that the Company should recognize a liability for future benefitsbased on the agreements held with employees. The issue was effective for fiscal years beginning after December 15,2007.  The Company adopted thispronouncement effective January 1, 2008 and recorded an initial liabilityof $1.6 million with an offsetting adjustment to retained earnings of $1.1million and deferred taxes of $0.5 million, pursuant to this accountingpronouncement.  At December 31,2008, the liability was $1.7 million.

 

***401(k) SavingsPlan***

The 401(k) savingsplan (the “Plan”) allows participants to defer, on a pre-tax basis, up to 100%of their salary (subject to Internal Revenue Service limitations) andaccumulate tax-deferred earnings as a retirement fund.  The Bank may make a discretionarycontribution to match a specified percentage or dollar amount of the participants’annual contributions.  The matchingcontribution is discretionary; it vests over a period of one year from theparticipants’ hire date and is subject to the approval of the Board ofDirectors.  For the years ended December 31,2008 and 2007, the Company’s matching contribution was $1,200 per participantand totaled $111,000 for 2008.

 

***StockCompensation Plan***

At December 31,2008, the Company had a stock-based employee compensation plan, which is morefully described in NOTE 17.  On January 1,2006, the Company adopted FASB Statement No 123(R), *Accountingfor Share Based Payments.*  FAS123(R) requires all share-based payments to employees, including grants of

 

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employee stock options tobe recognized in the financial statements based on the grant-date fair value ofthe award.  The fair value is amortizedover the requisite service period (generally the vesting period).

 

On December 28,2005, the Directors of The Bank Holdings approved the acceleration ofnon-qualified stock options granted under The Bank Holdings Stock Option Planof 2002 as amended.  Non-qualifiedoptions previously granted under this Plan were to be vested over a five yearterm.

 

The Company determinesthe fair value of each option grant on the grant date using the Black-Scholespricing model (1) that takes into account the stock price at the grantdate, the exercise price, the expected life of the option, the volatility ofthe underlying stock and the expected dividend yield and the risk-free interestrate over the expected life of the option. There were no stock option grants in 2008.  The assumptions for determining fair valuesfor 2007 and 2006 are provided in the following table:

 
| ** **                                    | ** ** | **2008** | ** ** | **2007** | ** ** | **2006** | ** ** |
|-----------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| **Assumptions  for determining fair values:** |       |     |       |     |       |     |       |
| Dividend yield                                |       | N/A      |       | 0.0      | %          | 0.0      | %          |
| Projected stock  price volatility             |       | N/A      |       | 26.94    | %          | 23.85    | %          |
| Risk-free  interest rate                      |       | N/A      |       | 3.73     | %          | 4.69     | %          |
| Expected life of  options (in years)          |       | N/A      |       | 7.0      |       | 7.0      |       |
| Fair value per  option                        |       | N/A      |       | $        | 6.62       |     | $          | 5.44 |   |
|                                               |            |          |            |          |            |          |            |  |  |

 

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(1) The Black-Scholes option valuation model requires the input of highlysubjective assumptions, including the expected life of the stock based awardand stock price volatility.  Theassumptions listed above represent management’s best estimates, but theseestimates involve inherent uncertainties and the application of managementjudgment.  As a result, if otherassumptions had been used, the Company’s recorded compensation expense couldhave been materially different from that depicted in here.  In addition, the Company is required toestimate the expected forfeiture rate and only recognize expense for those sharesexpected to vest.  If the Company’sactual forfeiture rate is materially different from the estimate, theshare-based compensation expense could be materially different.  The dividend yield is based on the lack ofhistorical cash dividends paid during the life of the company, while the projectedstock price volatility is based on historical factors.  The Company uses the seven year zero coupontreasury rate as the risk-free interest rate. The expected life of options (in years) is based on limited historicaldata, since very few options have been exercised and employees’ and directors’exercise of awards have been based primarily on four separations, and threedeaths.  The vesting period has beennoted above.

 

***(Loss) Income Per Common Share***

(Loss) Income per sharefor all periods presented in the Consolidated Statements of Operations iscomputed based on the weighted average number of shares outstanding during eachperiod.  Options outstanding as of December 31,2008 were 688,431.  The computation ofbasic and diluted earnings per weighted average share outstanding is asfollows:

 
| ** **                                                                                        | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                        | ** ** | **2008**                                    | ** ** | **2007** | ** ** | **2006 (1)** | ** ** |
|                                                                                              |       |                                        |       |   |   |   |   |
| Average number  of common shares outstanding                                                      |       | 5,828,697                                   |       | 5,831,099 |   | 4,117,351 |   |
| Effect of  dilutive options                                                                       |       | —                                      |       | 137,588 |   | 119,834 |   |
| Effect of dilutive  warrants                                                                      |       | - 0 -                                       |       | - 0 - |   | 52,937 |   |
| Average number  of common shares outstanding used to calculate diluted earnings per common  share |       | 5,828,697                                   |       | 5,968,687 |   | 4,290,122 |   |
|                                                                                              |       |                                        |       |   |   |   |   |
| Net (loss) income                                                                                 |       | $                                           | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   |
| Basic net (loss)  income per share                                                                |       | $                                           | (6.41      | ) | $ | .30 |   | $ | .51 |   |
| Diluted net (loss)  income per share                                                              |       | $                                           | (6.41      | ) | $ | .29 |   | $ | .49 |   |

 

----

(1) Reflectsthe 5% Stock Dividend declared on February 15, 2007.

 

Stock options are not included in the calculation of earnings per sharewhen a loss occurs because the potential conversion to common stock would beanti-dilutive.  There were 219,930 and99,903 anti-dilutive weighted shares excluded from the calculations for thesame period in 2007 and 2006, respectively.

 

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***Off-Balance Sheet Instruments***

In the ordinary course ofbusiness, the Company has entered into off-balance sheet instruments consistingof commitments to extend credit and standby letters of credit.  Such financial instruments are recorded inthe financial statements when they are funded.

 

***ComprehensiveIncome***

Accounting principlesgenerally require that recognized revenue, expenses, gains and losses beincluded in net income.  Although certainchanges in 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, are componentsof comprehensive income.  Comprehensiveincome includes net income or loss and other comprehensive income or loss.  The Company’s sources of other comprehensiveincome are derived from unrealized gains and losses on investment securitiesavailable for sale and amortization of prior service costs for the definedbenefit plan.  Reclassificationadjustments, resulting from gains or losses on investment securities that wererealized and included in the net income of the current period that also had beenincluded in other comprehensive income or loss as unrealized holding gains orlosses in the period in which they arose, are excluded from comprehensiveincome of the current period.  Thereconciliation of transactions affecting Accumulated Other Comprehensive Incomeis included in the Consolidated Statements of Stockholders’ Equity for theperiods indicated.

 

***Reclassification***

Various reclassificationshave been made to the consolidated balance sheet at December 31, 2008 andthe consolidated statements of operations for the periods ended December 31,2008 and 2007, in order to be consistent with the presentation at December 31,2008.  Further, certain captions have hadrevisions to more accurately reflect activities of the Company.  There were no changes to previously reportedstockholders’ equity or net income.

 

**NOTE 2 – BUSINESS PLAN**

 

As frequently notedelsewhere in this report, our 2008 results reflect a substantial loss of theyear as a result of three over-riding situations: 1) during the third quarterof the year we recorded a non-cash charge of $26.9 million related to theimpairment of goodwill due to the decline in the stock price and the resultingdifference between market capitalization of the Company and its book value; asreported, this non-cash charge had no effect on the company’s cash balances orliquidity; 2) during the third quarter of the year we posted a loss on FannieMae and Freddie Mac preferred stock purchased in earlier periods as well as“Other Than Temporary Impairments” (OTTI) on other investments held by thecompany.  These losses totaled $13.5million and substantially depleted Holding Company cash balances; and 3) during2008 the rapid deterioration in the economics of the Northern Nevada andNorthern California markets brought about substantive increases innon-performing assets and other real estate owned and reduced interest incomeby almost $2 million.

 

The Board of Directors,in responding to these financial challenges and increasing regulatory scrutiny,has initiated a number of strategies aimed at increasing capital, reducinglending exposures, increasing liquidity, strengthening earnings and evaluatingvarious strategic options through the assistance of investment banking firmswell known to our Company.

 

Such plans include, butare not limited to: 1) the forfeiture of retirement plan assets held by thecompany for the benefit of certain senior personnel.  The reduction of accrued liability willenhance second quarter 2009 earnings, contributing both liquidity as a result ofthe cash received upon liquidation of the assets, earnings for the year, andhence, capital; 2) the closure of under-performing branches and the concomitantreduction in staffing levels, positively affecting earnings by reducingoperating costs; 3) shrinking the Bank by reducing the level of brokereddeposits through cash flow provided by AFS investments; and 4) enhancingcapital ratios by collection of loans, reduction of asset size and otheractivities appropriate to the ever evolving economics surrounding the Company.

 

While we continue topersevere in our quest to “right-size” the organization in response to currenteconomic considerations and heightened regulatory supervision of all financialinstitutions, we are ever cognizant that in the current financial environment,the best laid plans may go awry. Economic risks and regulatory actions couldprecipitate declines in the results anticipated by the Company during 2009which could adversely affect the Company’s continuing operations. 

 

Under capital adequacyguidelines and the regulatory framework for prompt corrective action, the Bankmust meet specific capital guidelines that involve quantitative measures of theBank’s assets, liabilities and certain off-balance sheet items as calculatedunder regulatory accounting practices. The Bank’s capital amounts and classifications are also subject toqualitative judgments by regulators about components, risk weightings and otherfactors.   In the event our regulatorsdeem us to be less than well-capitalized, they have the ability to placeconstraints on our operating practices. Those constraints may include, but are not limited to, regulatoryapproval to accept brokered deposits, restrictions on capital distributions, expansion,asset growth, management changes, rates paid on deposits and other items.

 

**NOTE 3 – RESTRICTIONS ON CASH ANDAMOUNT DUE FROM BANKS**

 

The Company is requiredto maintain average balances on hand or with the Federal Reserve Bank.  At December 31, 2008 and 2007, thesereserve balances required amounted to approximately $2.7 million and $2.9million, respectively.

 

**NOTE 4 – FAIR VALUE MEASUREMENT**

 

Effective January 1,2007, the Company adopted FAS 157 “*Fair Value Measurements,”*concurrent with its early adoption of FAS 159 *“The FairValue Option for Financial Assets and Financial Liabilities.”*   FAS 157 clarifies the definition of fairvalue and describes methods available to appropriately measure fair value inaccordance with generally accepted accounting principles.  This statement applies whenever otheraccounting pronouncements require or permit fair value measurements.  FAS 159 allows entities to irrevocably electfair value as the initial and subsequent measurement attribute for certainfinancial assets and financial liabilities that are not otherwise required tobe measured at fair value, with changes in fair value recognized in earnings asthey occur.  FAS 159 also requiresentities to report those financial assets and liabilities that are measured atfair value in a manner that separates those reported fair values from the

 

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carrying amounts ofsimilar assets and liabilities measured using another measurement attribute onthe face of the statement of financial condition.  FAS 159 establishes presentation anddisclosure requirements designed to improve comparability between entities thatelect different measurement attributes for similar assets and liabilities.  The Company has elected early adoption of FAS159 effective January 1, 2007 for USDA/SBA loans purchased during late2003 and early 2004.

 

The Company believes itsadoption of FAS 159 will have a positive impact on its ability to better managethe balance sheet and interest rate risks which were associated with this groupof specifically acquired assets while potentially benefiting the net interestmargin, net interest income, net income and earnings per common share duringfuture periods.  These loan purchaseswere initiated when the Company’s sole subsidiary at the time, Nevada SecurityBank, was just two years old and suffered from a lack of substantive loangrowth.  Further, interest rates were ata very low ebb and these loans were purchased at a yield of approximately5%.  While this yield was approximately150 basis points greater than the Bank’s investment portfolio yield, loanportfolio yields for internally generated loans were in the range of 7.5%.  As a result, purchased loans were availablein the market at narrower spreads and higher interest rates.  With a lower than market coupon rate, andsubstantial premiums paid at acquisition, the Company’s cost basis of thesepurchased loans recorded on the statement of condition did not properly reflectthe true opportunity costs to the Company.

 

FAS 157 requires the fairvalue of the assets or liabilities to be determined based on the assumptionsthat market participants use in pricing the financial instrument.  In developing those assumptions, the Companyidentified characteristics that distinguish market participants generally, andconsidered factors specific to (a) the asset type, (b) the principal(or most advantageous) market for the asset group, and (c) marketparticipants with whom the reporting entity would transact in that market.  These loans may be sold in a secondary marketwith a limited number of active market participants.  An active market quote to determine pricingand the current market value of these loans in the secondary market wascompleted as of December 31, 2008 and obtained from a recognizedinvestment brokerage house.  Thesefactors met the definition of the most advantageous market and form the basisof the determination of a precise method for determining the value of theseloans.

 

The Company performsfair-market valuations on certain assets as the result of the application ofaccounting guidelines that were in effect prior to the adoption of FAS157.  Some fair value measurements, suchas available for sale securities are performed on a monthly recurring basis,while others, such as impairment of loans and USDA loans, are performed on aquarterly basis, unless significant information comes to the attention ofmanagement which suggests a more frequent evaluation should be undertaken.

 

The following tablesummarizes the Company’s financial instruments that were measured at fair valueon a recurring basis, as of December 31, 2008.

 
| **Description of Financial Instrument** | ** ** | **December****31, 2008**        | ** ** | **Quoted Prices  in Active  Markets for  Individual****Assets Level 1** | ** ** | **Significant  Other  Observable  Inputs****Level 2** | ** ** | **Significant  Unobservable****Inputs Level 3** | ** ** |
|--------------------------------------------------------|------------|--------------------------------------|------------|--------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                             | ** ** | **(Dollars in thousands)** | ** ** |
|                                                   |       |                                 |       |                                                                                             |       |                                                       |       |                                                      |       |
| Securities  Available for Sale                         |       | $                                    | 1,766      |                                                                                             | $          | —                                                     |       | $                                                         | 1,766      |   | $ | — |   |
| Trading  Securities                                    |       | 83                                   |       | 83                                                                                               |       | —                                                     |       | —                                                    |       |
| USDA Loans                                             |       | 858                                  |       | —                                                                                           |       | 858                                                        |       | —                                                    |       |
| Total                                                  |       | $                                    | 2,707      |                                                                                             | $          | 83                                                         |       | $                                                         | 2,624      |   | $ | — |   |

 

The following tablesummarizes the Company’s assets and liabilities measured at fair value on anon-recurring basis, as of December 31, 2008.

 
| ** **          | ** ** | **December****31, 2008** | ** ** | **Quoted Prices  in Active  Markets for  Individual****Assets Level 1** | ** ** | **Significant  Other  Observable  Inputs****Level 2** | ** ** | **Significant  Unobservable****Inputs Level 3** | ** ** |
|---------------------|------------|--------------------------|------------|--------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| Impaired Loans |       | $                        | 37,495     |                                                                                             | —     |                                                       | —     |                                                      | 37,495     |   |
| OREO                |       | 2,156                    |       | —                                                                                           |       | —                                                     |       | 2,156                                                     |       |
| Total               |       | $                        | 39,651     |                                                                                             | $          | —                                                     |       | $                                                         | —     |   | $ | 39,651 |   |
|                     |            |                          |            |                                                                                                  |            |                                                            |            |                                                           |            |  |  |  |  |

 

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Securities that areavailable for sale are valued based upon open market quotes obtained fromreputable third-party brokers.  Marketpricing is based upon specific CUSIP identification for each individualsecurity.  Changes in fair value arerecorded in other comprehensive income. Trading securities are valued based on open market quotes obtained fromreputable third party brokers and pricing is based upon specific identificationfor each individual security.  Changes infair value are recorded in the statement of operations.

 

The fair valuemeasurements for impaired loans are performed pursuant to FAS 114 and are basedupon either collateral values supported by appraisals, or discounted cash-flowassumptions.  All but five of theimpaired loans at December 31, 2008 have collateral to support their fairvalues.  Adjustments for fair value ofimpaired loans are a component in determining the overall adequacy of the loanloss reserve.  Consequently, adjustmentsto the estimated fair value of impaired loans may result in increases ordecreases to the provision for loan losses recorded in current earnings.

 

Fair value measurementsfor Other Real Estate Owned (“OREO”) are based upon collateral values supportedby appraisals.  Changes in the estimatedfair value of OREO are recorded in the statement of operations.

 

The fair valuemeasurements for USDA loans are based on upon market quotes obtain fromreputable third-party brokers.  Pricesfor similar assets in the market place and other inputs are used to provide areasonable basis for the fair value determination.  Adjustments to the fair value estimates ofthe USDA loans are recorded in current earnings.

 

The following tablepresents a reconciliation of retained earnings at the initial adoption of FAS159 for the Company’s USDA/SBA loan portfolio.

 
| **January 1, 2007 Prior to Adoption**                        | ** ** | **January 1,   2007 Prior to ****Adoption** | ** ** | **Net Gain   (Loss) upon ****Adoption** | ** ** | **January 1,   2007 After ****Adoption** | ** ** |
|---------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------|------------|-------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                                            | ** ** | **(Dollars in thousands)**                                 | ** ** |
| USDA/SBA Loans                                                                        |       | $                                                                    | 14,448     |                                                        | $          | (736                                                         | )          | $ | 13,712 |   |
|                                                                                  |       |                                                                 |       |                                                        |       |                                                         |       |
| Pre-tax  cumulative effect of adoption of the fair value option                       |       | (736                                                                 | )          |                                                        |       |                                                         |       |
| Increase in  deferred tax asset                                                       |       | 272                                                                  |       |                                                        |       |                                                         |       |
|                                                                                  |       |                                                                 |       |                                                        |       |                                                         |       |
| Cumulative  effect of adoption of the fair value option (charge to retained earnings) |       | (464                                                                 | )          |                                                        |       |                                                         |       |
|                                                                                       |            |                                                                      |            |                                                             |            |                                                              |            |  |  |  |

 

During 2008, a pre-taxnet unrealized gain of $10,000 was recorded in earnings, representing thechange in fair value of these loans from the fair value at December 31,2007.  During 2007, a pre-tax netunrealized loss of $77,000 was recorded in earnings, representing the change infair value of these loans from the fair value election date of January 1,2007.  The fair value at December 31,2008 and 2007 was calculated using fair value hierarchy level two and in thesame manner as the valuation at January 1, 2007.

 

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**NOTE 5 – SECURITIES**

 

The amortized cost andfair value of securities with gross unrealized gains and losses are as follows:

 
| ** **                            | ** ** | **As of December 31, 2008** | ** ** |
|---------------------------------------|------------|-------------------------------------------------|------------|
| ** **                            | ** ** | **Amortized   Cost**                       | ** ** | **Gross   Unrealized   Gains** | ** ** | **Gross   Unrealized   Losses** | ** ** | **Fair   Value** | ** ** |
| ** **                            | ** ** | **(Dollars in thousands)**            | ** ** |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities  available for sale        |       |                                            |       |   |   |   |   |   |   |
| Corporate                             |       | $                                               | 1,316      |   | $ | 15 |   | $ | — |   | $ | 1,331 |   |
| Preferred  securities                 |       | 503                                             |       | — |   | (68 | ) | 435 |   |
| Total securities  available for sale  |       | 1,819                                           |       | 15 |   | (68 | ) | 1,766 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities held  to maturity          |       |                                            |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | 6,033                                           |       | 165 |   | — |   | 6,198 |   |
| State and  municipal                  |       | 16,227                                          |       | 20 |   | (992 | ) | 15,255 |   |
| Corporate                             |       | 250                                             |       | — |   | (10 | ) | 240 |   |
| Mortgage-backed                       |       | 36,245                                          |       | 428 |   | (138 | ) | 36,535 |   |
| Total securities  held to maturity    |       | 58,755                                          |       | 613 |   | (1,140 | ) | 58,228 |   |
| Total investment  securities          |       | $                                               | 60,574     |   | $ | 628 |   | $ | (1,208 | ) | $ | 59,994 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Trading equity  securities            |       | $                                               | 102        |   | $ | — |   | $ | (19 | ) | $ | 83 |   |

 
| ** **                            | ** ** | **As of December 31, 2007** | ** ** |
|---------------------------------------|------------|-------------------------------------------------|------------|
| ** **                            | ** ** | **Amortized   Cost**                       | ** ** | **Gross   Unrealized   Gains** | ** ** | **Gross   Unrealized  Loss** | ** ** | **Fair   Value** | ** ** |
| ** **                            | ** ** | **(Dollars in thousands)**            | ** ** |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities  available for sale        |       |                                            |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                                               | 6,136      |   | $ | 19 |   | $ | (96 | ) | $ | 6,059 |   |
| Corporate                             |       | 4,274                                           |       | 25 |   | (747 | ) | 3,552 |   |
| Preferred  securities                 |       | 6,998                                           |       | — |   | (108 | ) | 6,890 |   |
| Mortgage-backed                       |       | 1,512                                           |       | — |   | (17 | ) | 1,495 |   |
| Total securities  available for sale  |       | $                                               | 18,920     |   | $ | 44 |   | $ | (968 | ) | $ | 17,996 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities held  to maturity          |       |                                            |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                                               | 12,596     |   | $ | 112 |   | $ | (4 | ) | $ | 12,704 |   |
| State and  municipal                  |       | 21,400                                          |       | 100 |   | (157 | ) | 21,343 |   |
| Corporate                             |       | 794                                             |       | 18 |   | — |   | 812 |   |
| Mortgage-backed                       |       | 27,490                                          |       | 50 |   | (306 | ) | 27,234 |   |
| Total securities  held to maturity    |       | $                                               | 62,280     |   | $ | 280 |   | $ | (467 | ) | $ | 62,093 |   |
| Total investment  securities          |       | $                                               | 81,200     |   | $ | 324 |   | $ | (1,435 | ) | $ | 80,089 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Trading equity  securities            |       | $                                               | 4,168      |   | $ | 782 |   | $ | (221 | ) | $ | 4,729 |   |

 

At December 31, 2008and 2007, securities in the investment portfolio with a carrying value of $40.0million and $45.5 million, respectively, were pledged as collateral or forother purposes as required or permitted by law. Of the amounts pledged, $33.0 million was pledged for FHLB borrowing asof December 31, 2008, and $7 million was pledged to support publicdeposits.

 

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The amortized cost andfair value of debt securities by contractual maturity at December 31, 2008is shown below.  Over certain interestrate environments, some, or all of these securities may be called forredemption by their 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 not included in the maturity categoriesin the following maturity summary.

 
| ** **                      | ** ** | **Available for Sale** | ** ** | **Held to Maturity** | ** ** |
|---------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                      | ** ** | **Amortized   Cost**        | ** ** | **Fair   Value**          | ** ** | **Amortized   Cost** | ** ** | **Fair   Value** | ** ** |
| Within one year                 |       | $                                | —     |                           | $          | — |   | $ | 5,260 |   | $ | 5,376 |   |
| After 1 year  through 5 years   |       | —                           |       | —                         |       | 1,023 |   | 1,062 |   |
| After 5 years  through 10 years |       | —                           |       | —                         |       | 538 |   | 556 |   |
| After 10 years                  |       | 1,819                            |       | 1,766                          |       | 15,689 |   | 14,699 |   |
| Mortgage-backed  securities     |       | —                           |       | —                         |       | 36,245 |   | 36,535 |   |
|                            |       | $                                | 1,819      |                           | $          | 1,766 |   | $ | 58,755 |   | $ | 58,228 |   |

 

For the year ended December 31,2008 realized gains and losses from sales of securities available for sale wereapproximately $54,000 in gains and $13,467 million in losses as compared to$4,000 in gains and $3,000 in losses for the same period in 2007 and $11,000 ingains and $3,000 in losses for the same period in 2006.  Realized gains and losses from sales ofsecurities held to maturity were approximately $90,000 in gains and $348,000 inlosses in 2008.  Realized gains andlosses in the trading account were $67,000 in gains and $1,559 million inlosses for the period ending 2008 as compared to $18,000 in gains and $16,000in losses for 2007.  The results of theseactivities resulted in net realized losses on sale of investment securities of$15.4 million for the year ended 2008 and net realized gains of $3,000 for2007.  The trading account had netrealized and unrealized losses of $1,131,328 for the year of 2008, as comparedto net gains of $118,000 for 2007 and $443,000 for 2006.

 

Information pertaining tosecurities with gross unrealized losses at December 31, 2008 and 2007,aggregated by investment category and length of time that individual securitieshave been in a continuous loss position, are as follows:

 
| ** **                     | ** ** | **As of December 31, 2008** | ** ** |
|--------------------------------|------------|-------------------------------------------------|------------|
| ** **                     | ** ** | **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 |       |                                            |       |   |   |   |   |   |   |   |   |   |   |
| Preferred  securities          |       | $                                               | 435        |   | $ | (68 | ) | $ | — |   | $ | — |   | $ | 435 |   | $ | (68 | ) |
|                           |       |                                            |       |   |   |   |   |   |   |   |   |   |   |
| Securities  held-to-maturity   |       |                                            |       |   |   |   |   |   |   |   |   |   |   |
| State and  municipal           |       | 13,762                                          |       | (914 | ) | 1,059 |   | (78 | ) | 14,821 |   | (992 | ) |
| Corporate                      |       | 240                                             |       | (10 | ) | — |   | — |   | 240 |   | (10 | ) |
| Mortgage-backed  securities    |       | 8,223                                           |       | (94 | ) | 2,904 |   | (44 | ) | 11,127 |   | (138 | ) |
|                           |       | $                                               | 22,225     |   | $ | (1,018 | ) | $ | 3,963 |   | $ | (122 | ) | $ | 26,188 |   | $ | (1,140 | ) |

 
| ** **                            | ** ** | **As of December 31, 2007** | ** ** |
|---------------------------------------|------------|-------------------------------------------------|------------|
| ** **                            | ** ** | **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 agencies |       | $                                               | —     |   | $ | — |   | $ | 5,346 |   | $ | (96 | ) | $ | 5,346 |   | $ | (96 | ) |
| Corporate                             |       | 2,260                                           |       | (647 | ) | 488 |   | (100 | ) | 2,748 |   | (747 | ) |
| Preferred  securities                 |       | 2,342                                           |       | (74 | ) | 216 |   | (34 | ) | 2,558 |   | (108 | ) |
| Mortgage-backed  securities           |       | —                                          |       | — |   | 1,495 |   | (17 | ) | 1,495 |   | (17 | ) |
|                                  |       | $                                               | 4,602      |   | $ | (721 | ) | $ | 7,545 |   | $ | (247 | ) | $ | 12,147 |   | $ | (968 | ) |
| Securities  held-to-maturity          |       |                                            |       |   |   |   |   |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                                               | 3,142      |   | $ | (4 | ) | $ | — |   | $ | — |   | $ | 3,142 |   | $ | (4 | ) |
| State and  municipal                  |       | 8,836                                           |       | (110 | ) | 3,140 |   | (47 | ) | 11,976 |   | (157 | ) |
| Mortgage-backed  securities           |       | 714                                             |       | (2 | ) | 18,948 |   | (304 | ) | 19,662 |   | (306 | ) |
|                                  |       | $                                               | 12,692     |   | $ | (116 | ) | $ | 22,088 |   | $ | (351 | ) | $ | 34,780 |   | $ | (467 | ) |

 

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**ImpairmentAnalysis**

Market prices are affected by general marketconditions which reflect prospects for the economy as a whole, and by industryspecific information as well as information specific to an obligor. Suchdeclines are investigated by management. Acting upon the premise that awrite-down may be required, the Company considers all available evidence in itsevaluation of whether the decline is other-than-temporary.

 

Changes in current market conditions, such as interestrates and the economic uncertainties in the mortgage, housing and bankingindustries have severely constricted the securities markets. The limitedsecondary market for various types of securities has negatively impactedsecurities value since there are occasionally no active security markets forcertain types of obligations. Accordingly, the Company performs a quarterly review of each investmentsecurity within the segments noted in the table on the next page todetermine the nature of the decline in the value of investment securities. TheCompany evaluates if any of the underlying securities have experienced OTTI.The Company begins by evaluating whether an event or change in circumstanceshas occurred in the quarter that may have a significant adverse effect on thefair value of the investment (an “impairment indicator”). Impairment indicatorsinclude, but are not limited to:

 
|   | · |   | A significant deterioration in the earnings performance,  credit rating, asset quality, or business prospects of the issuer.                                                                                                                                  |
|--------|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   | · |   | A significant adverse change in the regulatory,  economic, or technological environment of the issuer.                                                                                                                                                        |
|   | · |   | A significant adverse change in the general market  condition of either the geographic area or the industry in which the issuer  operates.                                                                                                                    |
|   | · |   | A bona fide offer to purchase (whether solicited or  unsolicited), an offer by the issuer to sell, or a completed auction process  for the same or similar security for an amount less than the cost of the  investment.                                      |
|   | · |   | Factors that raise significant concerns about the  issuer’s ability to continue as a going concern, such as negative cash flows  from operations, working capital deficiencies, or noncompliance with  statutory capital requirements or debt covenants. |

 

Numerous factors are considered in such an evaluationand their relative significance varies from case to case. The Company believesthat the following factors may, individually or in combination, indicate that asecurity should be evaluated further to determine if a decline may beother-than-temporary and that a write-down of the carrying value mayberequired:

 
|   | · |   | The length of the time and the amount of price  severity in which the market value has been less than cost.                                                                                                                                                                                                                                                   |
|--------|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   | · |   | External credit rating declines.                                                                                                                                                                                                                                                                                                                              |
|   | · |   | The financial condition and near-term prospects of  the issuer, including any specific events which may influence the operations  of the issuer such as changes in market conditions, technology that may  impair the earnings potential of the investment or the discontinuance of a  segment of the business that may affect the future earnings potential. |
|   | · |   | The intent and ability of the Company to retain its  investment in the issuer for a period of time sufficient to allow for any  anticipated recovery in fair value.                                                                                                                                                                                           |

 

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The Company’s OTTI evaluation process is performed ina consistent, systematic, and rational manner and includes a disciplinedevaluation of all available evidence. This process is applied at the individualsecurity level and considers the causes, severity, length of time andanticipated recovery period of the impairment. Consideration is also given tomanagement’s intent and ability to hold the security over the anticipatedrecovery period. Documentation is vigorous and extensive as necessary tosupport a conclusion as to whether a decline in market value below cost isother-than-temporary and includes documentation supporting both observable andunobservable inputs and a rationale for conclusions reached.

 

Theinvestment securities portfolio is evaluated for OTTI by segregating theportfolio into two general segments and applying the appropriate OTTIguidelines provided by the pertinent authoritative literature. FSP FAS 115-1and FAS 124-1 “The Meaning of Other-Than-Temporary Impairment and itsApplication to Certain Investments” (“FSP FAS 115-1”) is applied to addressconsiderations of whether an investment is considered impaired, whether theimpairment is other-than-temporary and the measurement of an impairment loss.Structured securities, including non-agency MBS, asset-backed securities, andcollateralized debt obligations, that had credit ratings at the time ofpurchase of below AA (Standard & Poor’s) or purchased at a significantpremium are evaluated using the guidance of EITF Issue 99-20 “Recognition ofInterest Income and Impairment on Purchased Beneficial Interests and BeneficialInterests that Continue to be Held by a Transfer in Securitized FinancialAssets” (“EITF 99-20”). Securities determined to not have OTTI under EITF 99-20are required to be evaluated using the guidance of SFAS No. 115.Impairment is assessed at the individual security level. An investment securityis considered impaired if the fair value of the security is less than its costbasis. Once the security is considered impaired, a determination must be madeto see if the impairment is other-than-temporary. If the security is consideredother-than-temporarily impaired, an impairment loss is recorded to non-interestincome. The OTTI assessment under the SFAS No. 115 segment is based on theperformance of the issuer for corporate or municipal bonds or the collateral inthe case of structured securities. The financial performance is evaluated todetermine if the financial performance will adversely affect the contractualcash flows of the related security. The second segment of the portfolio usesthe OTTI guidance provided by EITF 99-20 that is specific to structuredsecurities that, on the purchase date, were rated below AA or those purchasedat a significant premium (generally 10% or more) which might result in theCompany not recovering substantially all of its investment. The evaluation forOTTI utilizes the best estimate of cash flows from a market participant’sperspective to determine fair value incorporating the risk of defaults. Thecash flows are considered to be adversely impacted if the present value of thefuture cash flows is less than the present value calculated in the prior periodusing the same methodology. For all securities evaluated under EITF 99-20 andSFAS No. 115, if the length of time needed to recover becomes longer andthe magnitude of the decline in value becomes more significant, the evaluationfor OTTI of the individual security is more extensive.

 

Fair values obtained from an independent third partyor from third party pricing in combination with the internal pricing models areused as part of the evaluation of OTTI. If current pricing indicates a pricedecline, the Company considers securities with significant price declines ordeterioration in fair value in conjunction with the duration of such todetermine whether an OTTI evaluation is required. For structured bonds, anevaluation is performed using modeling software. Other securities may require aseparate credit evaluation performed internally unless the circumstancesdictate the use of an external credit evaluation. The evaluation focuses on theexpected cash flows from the individual security taking into consideration thecredit quality of the security, including the anticipated inherent lossesindicated from the underlying issuers or collateral, the probability ofcontractual cash flow shortfalls and the ability of the securities to absorbfurther economic declines. Credit support, if applicable and appropriate, shallalso be considered when performing the OTTI evaluation. All relevantinformation is considered including the credit history of the security and thebusiness sector. All assumptions used to perform an evaluation of projectedcash flows are corroborated from one or more market participants. The cashflows used for the OTTI assessment are obtained from a market participant ordeveloped internally, based on events and information that management estimatesa market participant would use in determining the current value. For securitiesnot previously recognized as OTTI, a determination of adversely impacted cashflows will merit recognition as OTTI. Securities previously recognized as OTTIwill have their cash flows tested and the result compared to their prior cashflows estimates to determine if further OTTI recognition is warranted.

 

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Once the evaluation has been completed a determinationis made whether an individual security is considered OTTI. The OTTI amount isrecorded as impairment on investment securities in the period in which itoccurs. Once the security is written down, it may not be written up unless thewrite-up is through yield accretion for the securities as permitted by theappropriate accounting guidance. Furthermore, securities may continue to incurfurther OTTI after an initial write-down. These further write-downs shall beanalyzed with respect to the new basis of the security that was establishedfrom any previous write-down(s). The written down value of the security thenbecomes the new cost basis of the security.

 

***Discussion of PortfolioTypes***

 
| ** **                              | ** ** | **Summary of Investment Securities by Portfolio Type** | ** ** |
|-----------------------------------------|------------|--------------------------------------------------------------------------------------|------------|
| ** **                              | ** ** | **December 31, 2008**                                                      | ** ** |
| ** **                              | ** ** | ** **                                                                           | ** ** | **Gross** | ** ** | **Gross** | ** ** | ** ** | ** ** |
| ** **                              | ** ** | **Amortized**                                                                        | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | **Fair** | ** ** |
| ** **                              | ** ** | **Cost**                                                                             | ** ** | **Gains** | ** ** | **Losses** | ** ** | **Value** | ** ** |
| ** **                              | ** ** | **(Dollars in thousands)**                                                 | ** ** |
| U.S. Government  and federal agencies   |       | $                                                                                    | 6,033      |   | $ | 165 |   | $ | — |   | $ | 6,198 |   |
| Agency  mortgage-backed                 |       | 34,762                                                                               |       | 381 |   | (53 | ) | 35,090 |   |
| State and  municipals                   |       | 16,227                                                                               |       | 20 |   | (992 | ) | 15,255 |   |
| Bank pooled  trust preferred securities |       | 1,222                                                                                |       | 15 |   | — |   | 1,237 |   |
| Non-agency  mortgage-backed             |       | 1,483                                                                                |       | 47 |   | (85 | ) | 1,445 |   |
| Preferred  securities                   |       | 597                                                                                  |       | — |   | (68 | ) | 529 |   |
| Corporate securities                    |       | 250                                                                                  |       | — |   | (10 | ) | 240 |   |
| Total                                   |       | $                                                                                    | 60,574     |   | $ | 628 |   | $ | (1,208 | ) | $ | 59,994 |   |

 

Gross unrealized losses associated with the investmentsecurities portfolio total $1.2 million at December 31, 2008. Of thatamount, $122,000 has existed for a period of twelve consecutive months orlonger.

 

The unrealized losses associated with AAA rated U.S.Government and federal agencies and agency MBS securities are caused by changesin interest rates and are not considered credit related since the contractualcash flows of these investments are backed by the full faith and credit of theU.S. government. Unrealized losses that are related to the prevailing interestrate environment will decline over time and recover as these securitiesapproach maturity.

 

The unrealized losses in the state and municipalsecurities portfolio are due to widening credit spreads caused by concernsabout the bond insurers associated with these securities. With the exception offour securities, each security has a credit rating of at least BBB.  The other four securities are not rated.  The Company believes that all contractualcash flows will be received on this portfolio.

 

Prices in the bank pooled trust preferred securitiesportfolio continue to decline due to reduced demand for these securities.Additionally, there has been no primary issuance and little secondary markettrading for these types of securities. Due to these inactive markets, theCompany recognized $1.3 million as OTTI during 2008 relating to five bankpooled trust preferred securities.  At December 31,2008, the Company believes that the credit quality of most of these securitiesremains adequate to absorb further economic declines.  All structured securities will be tested eachquarter in accordance with appropriate accounting guidance.

 

The non-agency MBS securities portfolio hasexperienced various levels of price declines over the past twelve months due tothe current securities market environment and the currently limited secondarymarket for such securities.  Managementmonitors the actual mortgage delinquencies, foreclosures and losses for eachsecurity, as well as future expected losses in the underlying mortgagecollateral to determine if there is a high probability for expected losses andcontractual shortfalls of interest or principal, which could warrantrecognition of impairment.  At December 31,2008, these securities held an AAA credit rating and the Company believes thatall contractual cash flows will be received on this portfolio.

 

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The unrealized losses in the preferred securitiesportfolio are associated with the current preferred securities marketenvironment.  At December 31, 2008,the Company believes that the credit quality of this portfolio remains adequateto absorb further economic declines.

 

The unrealized losses in the corporate securitiesportfolio are associated with the widening spreads in the financial sector ofthe corporate bond market. One of the securities in this portfolio was writtendown in 2008.  Management determined thatan OTTI existed due to the inactive market for this security and, consequently,recorded a $156,000 impairment charge. At December 31, 2008, all of the securities are current as toprincipal and interest payments, and are expected to remain so in the future.

 

In early 2008, the Company invested in FNMA and FHLMC preferred stockfor the rate of return, safety and soundness of a government sponsoredenterprise (GSE) and strong investment rating (AAA).  Subsequent to the investment, the U.S.Department of Treasury placed FNMA and FHLMC into conservatorship.  Management deemed that an OTTI existedrelated to these securities and consequently recorded a $12 million pre-taximpairment charge.  The Company held noFNMA or FHLMC preferred stock at December 31, 2008.

 

At December 31, 2008, many investment securitieshave unrealized losses that are considered temporary in nature because thedecline in fair value was caused by the interest rate environment, wideningspreads and a market liquidity crisis brought about by a lack of investorconfidence; such unrealized losses are not caused by cash flow impairment. TheCompany has the intent and ability to hold these securities until recovery,which may be to their normal maturity.

 

***Other-than-TemporaryLosses***

Listed below is the impairment recognized as OTTIrecorded on certain securities as described above, by the Company during 2008and the related book value.

 
| ** **                              | ** ** | **Impairment on Investment Securities 2008** | ** ** | **Book Value** | ** ** |
|-----------------------------------------|------------|------------------------------------------------------------------|------------|---------------------|------------|
| ** **                              | ** ** | **1st Qtr**                                                 | ** ** | **2nd Qtr**    | ** ** | **3rd Qtr** | ** ** | **4th Qtr** | ** ** | **Total** | ** ** | **12/31/2008** | ** ** |
| ** **                              | ** ** | **(Dollars in thousands)**                             | ** ** |
| FNMA and FHLMC  preferred stock         |       | $                                                                | —     |                | —     |   | $ | 12,005 |   | $ | — |   | $ | 12,005 |   | $ | — |   |
| Bank pooled  trust preferred securities |       | —                                                           |       | —              |       | 626 |   | 680 |   | 1,306 |   | 1,237 |   |
| Corporate  Securities                   |       | —                                                           |       | —              |       | — |   | 156 |   | 156 |   | 344 |   |
| Total                                   |       | $                                                                | —     |                | $          | — |   | $ | 12,631 |   | $ | 836 |   | $ | 13,467 |   | $ | 1,581 |   |
|                                         |            |                                                                  |            |                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The Company will continue to evaluate the investmentratings in the securities portfolio, severity in pricing declines, and marketprice quotes along with timing and receipt of amounts contractually due. Basedupon these and other factors, the securities portfolio may experience furtherimpairment.

 

**NOTE 6 – LOANS**

 

A summary of the balancesof loans is as follows:

 
| ** **                             | ** ** | **December 31,**                | ** ** |
|----------------------------------------|------------|--------------------------------------|------------|
| ** **                             | ** ** | **2008**                             | ** ** | **2007** | ** ** |
| ** **                             | ** ** | **(Dollars in thousands)** | ** ** |
|                                   |       |                                 |       |   |   |
| USDA  Agricultural loans at fair value |       | $                                    | 858        |   | $ | 897 |   |
| Commercial and  industrial             |       | 78,362                               |       | 87,436 |   |
| Real Estate:                           |       |                                 |       |   |   |
| Construction                           |       | 104,837                              |       | 145,842 |   |
| Term                                   |       | 248,834                              |       | 232,330 |   |
| Consumer loans                         |       | 8,330                                |       | 8,264 |   |
|                                   |       | 441,221                              |       | 474,769 |   |
|                                   |       |                                 |       |   |   |
| Less: Allowance  for loan losses       |       | 8,061                                |       | 7,276 |   |
| Net unearned  loan fees                |       | 934                                  |       | 1,255 |   |
| Loans, net                             |       | $                                    | 432,226    |   | $ | 466,238 |   |

 

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An analysis of theallowance for loan losses is as follows:

 
| ** **                                  | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                  | ** ** | **2008**                                    | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                        |       | **(Dollars in thousands)**        |       |
|                                        |       |                                        |       |   |   |   |   |
| Balance at  beginning of year               |       | $                                           | 7,276      |   | $ | 5,430 |   | $ | 2,655 |   |
| Provision for  loan losses                  |       | 4,025                                       |       | 3,007 |   | 771 |   |
| Allowance  acquired from NNB Holdings, Inc  |       | —                                      |       | — |   | 1,951 |   |
| Loans  charged-off                          |       | 3,293                                       |       | 1,193 |   | — |   |
| Recoveries of  loans previously charged-off |       | 53                                          |       | 32 |   | 53 |   |
| Balance at end  of year                     |       | $                                           | 8,061      |   | $ | 7,276 |   | $ | 5,430 |   |

 

The Company also carriesan allowance for undisbursed loan commitments which is reported as an “otherliability”.  At December 31, 2008,2007, and 2006 such allowance was $121,000, $199,000, and $334,000respectively.

 

The Company had 13 loanswhich were classified as troubled restructured debt totaling $19.7 million asof December 31, 2008 and none in 2007. The Company had twenty-seven loans on non-accrual ($23.8 million) as of December 31,2008, ten loans on non-accrual ($5.6 million) as of December 31, 2007 andtwo loans on non-accrual ($549,000) as of December 31, 2006, as well as noloans past due greater than 90 days and still accruing as of December 31,2008, 2007 or 2006.

 

The following tablesummarizes the Company’s investment in loans for which impairment had beenrecognized as of December 31, 2008 and 2007. The Company did not have anyimpaired loans as of December 31, 2006.

 
|                                                                                                                 |   | **December   31, 2008**    |   | **December   31, 2007** |   | **December  31, 2006** |   |
|----------------------------------------------------------------------------------------------------------------------|--------|--------------------------------------|--------|-----------------------------------|--------|------------------------|--------|
|                                                                                                                 |   | **(Dollars in thousands)** |   |
| Total impaired  loans                                                                                                |   | $                                    | 35,975 |                              | $      | 12,252                 |   | $ | 549 |   |
| Impaired loans  that have a specific allowance                                                                       |   | 4,853                                |   | 2,539                             |   | —                 |   |
| Specific  allowance on impaired loans                                                                                |   | 786                                  |   | 211                               |   | —                 |   |
| Impaired loans  which as a result of write-downs or the fair value of collateral, did not  have a specific allowance |   | 31,122                               |   | 9,713                             |   | —                 |   |
| Income  recognized on impaired loans during year                                                                     |   | —                               |   | —                            |   | —                 |   |
| Interest  foregone                                                                                                   |   | 1,657                                |   | 407                               |   | —                 |   |
|                                                                                                                      |        |                                      |        |                                   |        |                        |        |  |  |  |

 

The average investment inimpaired loans for 2008 was $24 million compared to $6 million in 2007, and$6.4 million in 2006.

 

The Company had pledged$149 million in loans at FHLB to support borrowings as of December 31, 2008 and$98 million at December 31, 2007.

 

**NOTE 7 – PREMISES AND EQUIPMENT**

 

A summary of the cost andaccumulated depreciation of premises and equipment is as follows:

 
| ** **                | ** ** | **December 31,** | ** ** |
|---------------------------|------------|-----------------------|------------|
| ** **                | ** ** | **2008**              | ** ** | **2007** | ** ** |
|                      |       |                  |       |   |   |
| Premises:                 |       |                  |       |   |   |
| Land                      |       | $                     | 3,108      |   | $ | 2,308 |   |
| Buildings                 |       | 1,989                 |       | 1,989 |   |
| Leasehold  Improvements   |       | 1,875                 |       | 1,897 |   |
| Furniture and  Equipment  |       | 5,650                 |       | 5,736 |   |
|                      |       | 12,622                |       | 11,930 |   |
|                      |       |                  |       |   |   |
| Accumulated  depreciation |       | (5,226                | )          | (4,418 | ) |
|                      |       | $                     | 7,396      |   | $ | 7,512 |   |

 

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Pursuant to the terms ofnon-cancelable lease agreements in effect at December 31, 2008, pertainingto Company premises, future minimum rent commitments (in thousands) undervarious operating leases are as follows:

 
| **Year Ending December 31,** | ** ** | ** ** | ** ** |
|---------------------------------------------|------------|------------|------------|
| 2009                                        |       | $          | 1,061      |   |
| 2010                                        |       | 847        |       |
| 2011                                        |       | 764        |       |
| 2012                                        |       | 639        |       |
| 2013                                        |       | 257        |       |
| Thereafter                                  |       | 1,644      |       |
| **Total**                                   |       | $          | 5,212      |   |

 

The leases containoptions to extend for periods of time from one to a maximum of fifteenyears.  Total rent expense for theperiods ended December 2008, 2007 and 2006, amounted to approximately $1.1million, $1.0 million and $836,000, respectively.  At December 31, 2008 there were noleasing transactions with related parties, nor were there any capital leases.

 

**NOTE 8 –INTANGIBLE ASSETS**

 

Thefollowing table sets forth the Company’s intangible assets and accumulatedamortization at December 31, 2008 and 2007:

 
| ** **                           | ** ** | ** **       | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|--------------------------------------|------------|------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **                           | ** ** | ** **       | ** ** | **Gross**                       | ** ** | ** **                      | ** ** | **Gross** | ** ** | ** ** | ** ** |
| ** **                           | ** ** | **Amortization** | ** ** | **Carrying**                    | ** ** | **Accumulated**                 | ** ** | **Carrying** | ** ** | **Accumulated** | ** ** |
| **(Dollars in thousands)** | ** ** | **Period**       | ** ** | **Amount**                      | ** ** | **Amortization**                | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Intangible  assets:                  |       |             |       |                            |       |                            |       |   |   |   |   |
| Core deposit  intangible             |       | 7 years          |       | $                               | 1,600      |                            | $          | 649 |   | $ | 1,600 |   | $ | 509 |   |
|                                      |            |                  |            |                                 |            |                                 |            |  |  |  |  |  |  |  |  |

 

Thetotal amortization expense for intangible assets was $140,000, $480,000 and $0during the years ended December 31, 2008, 2007 and 2006, respectively.

 

Theestimated future amortization expense related to intangible assets for each ofthe next five years is as follows:

 
| **Year Ending**  | ** ** | ** **                           | ** ** |
|-----------------------|------------|--------------------------------------|------------|
| **December 31,** | ** ** | **Amount**                           | ** ** |
| ** **            | ** ** | **(Dollars in thousands)** | ** ** |
| 2009                  |       | $                                    | 140        |   |
| 2010                  |       | $                                    | 140        |   |
| 2011                  |       | $                                    | 177        |   |
| 2012                  |       | $                                    | 214        |   |
| 2013                  |       | $                                    | 214        |   |

 

AtDecember 31, 2008 and 2007, management is not aware of any circumstancesthat would indicate impairment of intangible assets.  There were no impairment charges recordedthrough earnings in 2008 or 2007.

 

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**NOTE 9 –GOODWILL**

 

Goodwill represents the excess of purchase price overthe fair value of net assets acquired because of various businessacquisitions.  In accordance with FAS 142, “*Goodwill and Other Intangible Assets*” goodwill must beevaluated at the reporting unit level.  Reporting units are defined as anoperating segment.  FAS 142 prohibits the amortization of goodwill, butrequires that it be tested for impairment at least annually, or more frequentlyif events or circumstances change, such as adverse changes in the businessclimate, that would more likely than not reduce the reporting unit’s fair valuebelow its carrying amount.  Like most publicly traded financialinstitutions, the Company experienced a significant decline in its stock priceand market capitalization during 2008.  In conjunction with these declinesand the ongoing turmoil in the financial markets, the Company elected to reducethe carrying value of its goodwill resulting from the 2006 acquisitions ofNorthern Nevada Bank, Granite Exchange and Rocky Mountain 1031 Exchange.

 

The Company contracted with an independent valuationfirm to assist in the valuation of the Company’s goodwill and they utilizedthree general approaches in their evaluation: 1) the asset-based approach, 2) themarket approach and 3) the income approach.  The Company used one methodwithin the market approach and one method within the income approach.  Themethod within the income approach was the discounted cash flow method, whichrelies upon the perception of a future stream of benefits, the present value ofwhich represents the indication of value of the Company.  The methodwithin the market approach was the merger and acquisition method.  Afteranalysis, the various indications of value were then weighted to derive aconclusion as to the fair value of the reporting units.

 

 The Company concluded that $26,459,000.00 of thegoodwill was impaired and was required to be expensed as a non-cash charge tocontinuing operations during the third quarter of 2008. A subsequent valuationwas completed as of December 31, 2008 which determined no further impairmentwas necessary at this time.

 

AtDecember 31, 2008 and 2007, goodwill totaled $3,153,000 and $29,612,000,respectively.  The changes in thecarrying amount of goodwill for the years ended December 31, 2008 and 2007are summarized in the following table:

 
| ** **                    | ** ** | **As of and**                | ** ** |
|-------------------------------|------------|----------------------------------------|------------|
| ** **                    | ** ** | **For the Years Ended** | ** ** |
| ** **                    | ** ** | **December 31,**                  | ** ** |
| ** **                    | ** ** | **2008**                               | ** ** | **2007** | ** ** |
| ** **                    | ** ** | **(Dollars in thousands)**   | ** ** |
| Balance at  beginning of year |       | $                                      | 30,064     |   | $ | 28,796 |   |
| Revaluation of  goodwill      |       | —                                 |       | 1,268 |   |
| Impairment loss  on goodwill  |       | (26,911                                | )          | — |   |
| Balance at end  of year       |       | $                                      | 3,153      |   | $ | 30,064 |   |

 

**NOTE 10 – DEPOSITS**

 

At December 31,2008, the scheduled maturities of time deposits, including IRA accounts are asfollows:

 
| **(in thousands)**    | ** ** | **$**   | ** 100 & Under** | ** ** | **Over $ 100** | ** ** | **Total** | ** ** |
|----------------------------|------------|---------|-------------------------------------|------------|--------------------------|------------|-----------|------------|
| Three months or  less      |       | $       | 61,836                              |       | $                        | 22,494     |      | $          | 84,330 |   |
| Over three to  six months  |       | 6,988   |                                | 6,745      |                     | 13,733     |      |
| Over six to  twelve months |       | 117,010 |                                | 45,685     |                     | 162,695    |      |
| Over twelve  months        |       | 57,264  |                                | 8,156      |                     | 65,420     |      |
| Total                      |       | $       | 243,098                             |       | $                        | 83,080     |      | $          | 326,178 |   |

 

At December 31, 2008and, 2007, the Bank’s specialized program of tax free exchange depositsaggregated $4.8 million and $31 million, respectively. At December 31,2008 and 2007 the Bank had brokered deposits in the amount of $181 million and$154 million, respectively.

 

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**NOTE 11 – OTHER BORROWED FUNDS**

 

The Company previouslyentered into two agreements with correspondent banks under which it couldpurchase federal funds up to $17.0 million. The interest charged on borrowings was determined by the lendinginstitution at the time of the borrowing. These lines of credit were withdrawn as of December 31, 2008.  There were no amounts outstanding at December 31,2008.  At December 31, 2007, therewas $110,000 outstanding.

 

The Company also has anagreement with the Federal Home Loan Bank of San Francisco (FHLB) to borrowfunds.  Advances are collateralized byqualifying assets pursuant to collateral agreements with FHLB.  There was $27.0 million in advancesoutstanding at December 31, 2008 compared to $70.5 million at December 31,2007.  There was $116 million insecurities and loan collateral available at December 31, 2008 compared to$100 million available at December 31, 2007.

 

Other subordinated debtat December 31, 2008 and 2007 includes $15.5 million in subordinateddebentures issued by the Company and $5.1 million acquired in the merger withNNB Holdings, Inc.

 

**NOTE 12 – INCOME TAXES**

 

Thecumulative tax effects of the primary temporary differences which createddeferred tax assets and liabilities at

December 31, 2008,2007, and 2006 are as follows:

 

The components of income tax expense (benefit) forthe years presented were as follows:

 
| ** **                    | ** ** | **December 31,**                | ** ** |
|-------------------------------|------------|--------------------------------------|------------|
| ** **                    | ** ** | **2008**                             | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                    | ** ** | **(Dollars in Thousands)** | ** ** |
| Current expense               |       |                                 |       |   |   |   |   |
| Federal                       |       | $                                    | (1,782     | ) | $ | 1,614 |   | $ | 784 |   |
| State                         |       |                                 |       | 157 |   | 50 |   |
|                          |       | $                                    | (1,782     | ) | $ | 1,771 |   | $ | 834 |   |
|                          |       |                                 |       |   |   |   |   |
| Deferred tax  (benefit)       |       |                                 |       |   |   |   |   |
| Federal                       |       | $                                    | (4,396     | ) | $ | (1,018 | ) | $ | 227 |   |
| State                         |       | (850                                 | )          | (128 | ) | 14 |   |
|                          |       | $                                    | (5,246     | ) | $ | (1,146 | ) | $ | 241 |   |
|                          |       |                                 |       |   |   |   |   |
| Income tax  expense (benefit) |       | $                                    | (7,028     | ) | $ | 625 |   | $ | 1,075 |   |

 

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Thefollowing were the significant components of deferred tax assets andliabilities:

 
| ** **                                          | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------|------------|-----------------------|------------|
| ** **                                          | ** ** | **2008**              | ** ** | **2007** | ** ** |
|                                                |       |                  |       |   |   |
| Deferred tax  assets:                               |       |                  |       |   |   |
| Net operating  loss carryforwards                   |       | $                     | 4,433      |   | $ | — |   |
| Allowance for  loan losses                          |       | 2,932                 |       | 2,520 |   |
| Deferred  compensation                              |       | 2,327                 |       | 1,240 |   |
| OREO                                                |       | 189                   |       | 37 |   |
| Urealized loss  on investment securities            |       | 20                    |       | 355 |   |
| Other                                               |       | 85                    |       | 103 |   |
| Total deferred  tax assets                          |       | $                     | 9,986      |   | $ | 4,255 |   |
|                                                |       |                  |       |   |   |
| Deferred tax  liabilities:                          |       |                  |       |   |   |
| Deferred Loan  Costs                                |       | $                     | 168        |   | $ | 218 |   |
| Premises and  equipment resulting from depreciation |       | 664                   |       | 789 |   |
| Deferred Revenue                                    |       | 106                   |       | 140 |   |
| State Tax                                           |       | 384                   |       | — |   |
| Other                                               |       | 55                    |       | 41 |   |
| Total deferred  tax liabilities                     |       | $                     | 1,377      |   | $ | 1,188 |   |
|                                                |       |                  |       |   |   |
| Net deferred tax  asset                             |       | $                     | 8,609      |   | $ | 3,067 |   |

 

Managementbelieves that the Company will have sufficient taxable income of theappropriate character in future years to realize the net deferred income taxasset. In evaluating the expectation of sufficient future taxable income,management considered expectations concerning trends in earnings, taxableincome in recent years, the future reversal of temporary differences, andavailable tax planning strategies that could be implemented, if required.

 

At December 31,2008, the Company had approximately $11 million of net operating losscarry-forwards for federal income tax purposes that expire beginning in2028.  The state net operating loss issubject to limitation that could eliminate the availability of the loss for2009.  If the state net operating los isnot available in 2009 the loss carry-forward will be extended one year.  At December 31, 2007, the Company had nonet operating loss carry-forwards.

 

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The income tax (benefit) provisiondiffers from the amount of income tax determined by applying the US federalincome tax rate to pretax income for the years ended December 31, 2008,2007 and 2006 due to the following:

 
| ** **                                                        | ** ** | **2008** | ** ** | ** ** | ** ** | **2007** | ** ** | ** ** | ** ** | **2006** | ** ** | ** ** | ** ** |
|-------------------------------------------------------------------|------------|----------|------------|------------|------------|----------|------------|------------|------------|----------|------------|------------|------------|
| Computed  “expected” tax expense                        |       | $        | (16,329    | )          | -36.8      | %        | $          | 861        |       | 37       | %          | $          | 1,215      |   | 37 | % |
| Increase  (decrease) in income taxes resulting from:              |       |     |       |       |       |     |       |       |       |     |       |       |       |
| Effect of bank  owned life insurance and Other Non-taxable Income |       | (293     | )          | -0.7       | %          | (74      | )          | -3         | %          | (111     | )          | -3         | %          |
| Municipal  interest income                                        |       | (335     | )          | -0.8       | %          | (241     | )          | -11        | %          | (98      | )          | -3         | %          |
| Goodwill  Impairment                                              |       | 9,894    |       | 22.3       | %          |     |       |       |       |     |       |       |       |
| Non-deductible  expense                                           |       | 57       |       | 0.1        | %          | 79       |       | 3          | %          | 74       |       | 2          | %          |
| Other                                                             |       | (22      | )          | -0.1       | %          | —   |       |       |       | (5       | )          |       |       |
|                                                              |       | $        | (7,028     | )          |       |     | $          | 625        |       |     |       | $          | 1,075      |   |   |   |

 

**NOTE 13 – SUBORDINATED DEBENTURES**

 

The Bank HoldingsStatutory Trust I, a Connecticut statutory trust (the “Trust”) was formed bythe Company for the sole purpose of issuing trust preferred securities fullyand unconditionally guaranteed by the Company.  For financial reporting purposes, the Trust is not consolidated and theFloating Rate 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 FIN46R.  Under applicable regulatoryguidance, the amount of trust preferred securities eligible for inclusion inTier 1 capital is limited to twenty-five percent (25%) of the Company’s Tier 1capital on a pro-forma basis.  At December 31,2008 and 2007, $20.0 million of trust preferred securities qualified as Tier 1capital.

 

During the fourth quarterof 2005, the Trust issued $15 million Floating Rate Capital Trust Pass-throughSecurities (“TRUPS”) with a liquidation value of $1,000 per security for grossproceeds of $15 million.  The entireproceeds of the issuance were 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 represent the sole assets of the Trust.  The Subordinated Debentures issued by theCompany mature on December 15, 2035, bear a current interest rate of 90day LIBOR plus 1.42% with repricing and payments due quarterly.  These Subordinated Debentures are redeemableby the Company, subject to receipt by the Company of prior approval from theFederal Reserve Bank, on any December 15 on or after December 15,2010.  The redemption price is par plusaccrued and unpaid interest, except in the case of redemption under a specialevent which is defined in the debenture. The TRUPS are subject to mandatory redemption to the extent of any earlyredemption of the related Subordinated Debentures and upon maturity of thoseSubordinated Debentures on December 15, 2035.

 

Holders of the TRUPS areentitled to a cumulative cash distribution on the liquidation amount of $1,000per security at an interest rate at December 31, 2008 of 3.42%.  For each successive three month periodbeginning on December 15 of each year, the rate will be adjusted to equalthe 3 month LIBOR plus 1.42%, provided, however, that such annual rate does notexceed 11%.  The Trust has the option todefer payment of the distributions for a period of up to five years, as long asthe Company is not in default on the payment of interest on the SubordinatedDebentures.  The TRUPS issued in theoffering were sold in private transactions pursuant to an exemption fromregistration under the Securities Act of 1933, as amended.  The Company has guaranteed, on a subordinatedbasis, distributions and other payments due on the TRUPS.

 

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As a result of the purchase and merger agreement with NNB Holdings, Inc.the Company acquired NNB Holdings Statutory Trust I which was formed in June 2005to issue $5,155,000 of fixed/floating rate Cumulative Trust PreferredSecurities, which are classified as junior subordinated debt.  The fixed rate of 5.95% began on the date ofissuance and will end on (but not including) the interest payment date in June 2010,at which time the interest rate switches to a floating interest rate equal tothe three month LIBOR plus 1.85%.  Theacquired debentures will mature in 2035, but may be redeemed by the Company atits option at any time on or after June 15, 2010 with a payment of apremium as outlined in the indenture agreement.

 

**NOTE 14 – COMMITMENTS ANDCONTINGENCIES**

 

***FinancialInstruments with Off-balance Sheet Risk***

The Company is party tofinancial instruments with off-balance-sheet risk in the normal course ofbusiness to meet the financing needs of its customers.  These financial instruments may includecommitments to extend credit and 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 tocredit loss, in the event of nonperformance by the other parties to thefinancial instrument, is represented by the contractual amount of theseinstruments.  The Company follows thesame credit policies in making commitments as it does for on-balance-sheetinstruments.  A summary of the contractamount of the company’s exposure to off-balance sheet risk as of December 31,2008 and 2007 is as follows:

 
| ** **                             | ** ** | **Contract Amount**             | ** ** |
|----------------------------------------|------------|--------------------------------------|------------|
| ** **                             | ** ** | **2008**                             | ** ** | **2007** | ** ** |
| ** **                             | ** ** | **(Dollars in thousands)** | ** ** |
|                                   |       |                                 |       |   |   |
| Commitments to  extend credit:         |       |                                 |       |   |   |
| Secured                                |       | $                                    | 20,058     |   | $ | 47,506 |   |
| Unsecured                              |       | 10,213                               |       | 12,296 |   |
| Unsecured  consumer lines of credit    |       | 1,670                                |       | 2,368 |   |
| Standby letters  of credit (Unsecured) |       | 1,631                                |       | 714 |   |
|                                   |       | $                                    | 33,572     |   | $ | 62,884 |   |

 

Commitments to extendcredit are agreements to lend to a customer as long as there is no violation ofany condition established in the contract. Commitments generally have fixed expiration dates or other terminationclauses and may require payment of a fee. Since many of the commitments are expected to expire without ever beingdrawn upon, the total commitment amounts do not necessarily represent futurecash requirements.  The Company evaluateseach customer’s creditworthiness on a case-by-case basis. The amount ofcollateral obtained, if deemed necessary by the Company, is based on management’scredit evaluation of the customer. Collateral held varies, but may include accounts receivable, inventory,property and equipment, residential real estate and income producing commercialproperties.

 

Unfunded commitmentsunder commercial lines-of-credit, revolving credit lines and overdraftprotection agreements are commitments for possible extension of credit toexisting customers.  Theselines-of-credit may be uncollateralized, may not contain a specified maturitydate and may not be drawn upon to the total extent to which the Company iscommitted.

 

Standby letters-of-creditare conditional lending commitments issued by the Company to guarantee theperformance of a customer to a third party. Those letters-of-credit are primarily issued to support public andprivate borrowing arrangements. Essentially all letters of credit have expiration dates within one year.

 

As of December 31,2008, there were commitment fee obligations of less than $1 thousand, for the$1.6 million standby and commercial letters of credit. The credit risk involvedin issuing letters of credit is essentially the same as that involved inextending facilities to customers, and management believes that no undue creditor service fee income exposure exists as a result of such transaction.

 

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In connection withstandby letters of credit, the Bank recognizes the related commitment feereceived from the third party as a liability at the inception of the guaranteepursuant to FASB Interpretation 45 (FIN 45) *Initial Recognition and Measurement of theLiability for a Guarantor’s Obligations*. Commitment feeswhere the likelihood of exercise of the commitment is remote are generallyrecognized as service fee income over the commitment period.

 

***Concentrations***

The Company makes commercial,commercial real estate, and residential real estate loans in northern Nevadaand northern California.  The Companymakes consumer loans to customers primarily in northern Nevada.  At December 31, 2008 and 2007, realestate loans accounted for approximately 80% of total loans.  Substantially all of these loans are securedby first liens with an initial loan to value ratio of generally not more than75%.  The Company’s policy for requiringcollateral is to obtain collateral whenever it is available or desirable;depending upon the degree of risk the Company is willing to take.  In addition, approximately 7% of total loansare unsecured.  The Company’s loans areexpected to be repaid from cash flow or from proceeds from the sale of selectedassets of the borrowers.

 

A substantial portion ofthe Company’s customers’ ability to honor their contracts is dependent on theeconomy in the areas the Company serves. The Company’s goal is to maintain a diversified loan portfolio whichrequires the loans to be well collateralized and supported by cash flows.

 

***LegalContingencies***

With the exception of the matters disclosed below, in the normal courseof business, the Company is involved in various legal proceedings.  In the opinion of management, any liabilityresulting from such proceedings would not have a material adverse effect on theCompany’s financial condition or results of operation.

 

On November 21, 2008 a complaint was filed in the Superior Courtof California for the County of Sacramento by The Bank Holdings and GraniteExchange, naming Capital Exchange Services, LLC, Justin Swift, Robert Awalt,Lonnie Nielson, Kenneth O’Brien and Bill Herenda as the Defendants.  The complaint sites a breach of employmentagreements and fiduciary duties of the Defendants.  Thee Bank Holdings and Granite Exchange areseeking damages and injunctive relief – including an injunction againstcompetition and misappropriation of trade secrets, compensatory damages, trebledamages, punitive and exemplary damages, attorneys’ fees, and restitution –based on fraudulent inducement, constructive fraud, trade secretmisappropriation, breach of employment agreement, breach of fiduciary duty,intentional interference with prospective business advantage, fraudulentmisrepresentation, conversion, and unfair competition.  On December 29, 2008 a cross-complaintwas filed by the Defendants who are seeking an accounting, access to corporaterecords, compensatory damages, punitive damages, and attorneys’ fees. In March2009 the parties engaged in mediation and reached a tentative settlement of thematter and are working toward finalization of the terms. There can be no assurancesthat the settlement will ultimately be realized or that the matter will beresolved without trial.

 

***ExecutiveAgreements***

The Company has enteredinto agreements with five executive officers, which state that in the event theCompany terminates the employment of these officers without cause, or uponchange in control of the Company, the Company may be liable for the officers’salaries as outlined in the agreements.

 

**NOTE 15 – REGULATORY CAPITALREQUIREMENTS**

 

The Company (on aconsolidated basis) and the Bank are subject to various regulatory capitalrequirements administered by the federal banking agencies.  Failure to meet minimum capital requirementscan initiate certain mandatory and possibly additional discretionary actions byregulators that, if undertaken, could have a direct material effect on theCompany’s and Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework forprompt corrective action, the Company and the Bank must meet 

 

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certain specific capitalguidelines that involve quantitative measures of their assets, liabilities andcertain off-balance-sheet items as calculated under regulatory accountingpractices.  The capital amounts andclassifications are also subject to qualitative judgments by the regulatorsabout components, risk weightings, and other factors.  Prompt corrective action provisions are notapplicable to bank holding companies.

 

Additionally, State ofNevada bank regulations restrict distribution of the net assets of the Bank dueto the fact that such regulations require the sum of the Bank’s stockholders’equity and allowance for loan losses to be at least 6% of the average of theBank’s total daily deposit liabilities for the preceding 60 days.  As a result of these regulations,approximately $29.3 million and $27.5 million of the Bank’s stockholders’equity was restricted at December 31, 2008 and 2007, respectively.

 

Quantitative measuresestablished by regulation to ensure capital adequacy require the Company andthe Bank to maintain minimum amounts and ratios (set forth in the followingtable) of total and Tier 1 capital (as defined in the regulations) torisk-weighted assets (as defined) and of Tier 1 capital (as defined) to averageassets (as defined).  Management believes,as of December 31, 2008 and 2007, that the Company and Bank exceeded allminimum capital adequacy requirements to which they were subject.

 

As of December 31,2008, the most recent Call Report date indicated the Bank as well capitalizedunder the regulatory framework for prompt correct action.  To be categorized as well capitalized, aninstitution must maintain certain minimum total risk-based, Tier 1 risk-basedand Tier 1 leverage ratios.

 

The Company’s and theBank’s capital amounts and ratios as of December 31, 2008 and 2007, aswell as regulatory minimums, are presented in the table below:

 
| ** **                             | ** ** | **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, 2008**             |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Total Capital to Risk Weighted Assets  |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 56,248     |                                        | 11.63      | %                                                                                                                               | $          | 38,694 |   | 8.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 50,450     |                                        | 10.58      | %                                                                                                                               | $          | 38,140 |   | 8.00 | % | $ | 47,676 |   | 10.00 | % |
|                                   |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital to Risk Weighted Assets |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 50,269     |                                        | 10.39      | %                                                                                                                               | $          | 19,347 |   | 4.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 44,471     |                                        | 9.33       | %                                                                                                                               | $          | 19,070 |   | 4.00 | % | $ | 28,605 |   | 6.00 | % |
|                                   |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital to Average Assets       |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 50,269     |                                        | 8.89       | %                                                                                                                               | $          | 22,621 |   | 4.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 44,471     |                                        | 7.94       | %                                                                                                                               | $          | 22,413 |   | 4.00 | % | $ | 28,016 |   | 5.00 | % |
|                                   |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| **December 31, 2007**             |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Total Capital to Risk Weighted Assets  |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 69,453     |                                        | 12.27      | %                                                                                                                               | $          | 43,496 |   | 8.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 57,071     |                                        | 10.97      | %                                                                                                                               | $          | 41,632 |   | 8.00 | % | $ | 52,040 |   | 10.00 | % |
|                                   |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital to Risk Weighted Assets |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 62,936     |                                        | 11.58      | %                                                                                                                               | $          | 32,622 |   | 4.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 50,554     |                                        | 9.71       | %                                                                                                                               | $          | 20,816 |   | 4.00 | % | $ | 31,224 |   | 6.00 | % |
|                                   |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital to Average Assets       |       |       |       |                                        |       |                                                                                                                            |       |   |   |   |   |   |   |
| The Bank Holdings                      |       | $          | 62,936     |                                        | 10.39      | %                                                                                                                               | $          | 24,219 |   | 4.00 | % | N/A |   | N/A |   |
| Nevada Security Bank                   |       | $          | 50,554     |                                        | 8.60       | %                                                                                                                               | $          | 23,513 |   | 4.00 | % | $ | 29,392 |   | 5.00 | % |

 

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**NOTE 16 – EMPLOYEE BENEFIT PLANS**

 

The Company has aqualified 401(k) benefit plan for all eligible employees.  Participants are able to defer up to 100% oftheir compensation subject to certain limits based on federal tax laws. Theplan also provides a profit sharing component where the Company can makediscretionary contributions to the plan, which is allocated based on thecompensation of eligible employees.  Acontribution up to a maximum of $1,200 was made per participant by the Companyfor 2008 and 2007, and $500 for 2006, which amounted to approximately $111,000,$112,000 and $30,000 for the years ended December 31, 2008, 2007 and 2006,respectively.

 

**NOTE 17 –STOCK COMPENSATION PLAN**

 

***StockCompensation Plan***

The Company has adoptedthe 2002 Stock Option Plan (the “Plan”) under which options to acquire commonstock of the Company may be granted to employees, officers, directors andothers at the discretion of the Board of Directors.  The Plan allows for the granting of incentiveand non-qualifying stock options as those terms are defined in the InternalRevenue Code.  The Plan, as amended atthe shareholder’s 2004 Annual Meeting, authorizes up to 1,162,357 shares ofcommon stock to be provided by shares authorized but not outstanding.  Under the terms of the plan authorized sharesapproximate 20% of outstanding shares of the Company.  The Plan provides for the exercise price andterm of each option to be determined by the Board at the date of grant,provided that no options shall have a term greater than 10 years.  All stock options granted under the planexpire ten years after the date of grant.

 

A summary of stock optionactivity for the year ended December 31, 2008 is as follows:

 
| ** **                       | ** ** | **December 31, 2008**  | ** ** |
|----------------------------------|------------|----------------------------------|------------|
| ** **                       | ** ** | **Number of   Shares** | ** ** | **Weighted Average   Exercise Price** | ** ** | **Aggregate   Intrinsic Value** | ** ** | **Weighted   Average   Remaining   Contractual   Term** | ** ** |
|                             |       |                             |       |   |   |   |   |   |   |
| Outstanding at beginning of year |       | 731,310                          |       | $ | 13.63 |   |   |   |   |   |
| Granted                          |       | —                           |       | — |   |   |   |   |   |
| Exercised                        |       | —                           |       | — |   |   |   |   |   |
| Forfeited                        |       | 42,879                           |       | 11.02 |   |   |   |   |   |
| Outstanding at end of year       |       | 688,431                          |       | $ | 13.79 |   | $ | — |   | 5.48 |   |
|                             |       |                             |       |   |   |   |   |   |   |
| Options exercisable at year-end  |       | 593,231                          |       | $ | 13.10 |   | $ | — |   | 5.47 |   |
|                             |       |                             |       |   |   |   |   |   |   |
| Weighted average remaining life  |       | 5.48 Years                       |       |   |   |   |   |   |   |

 
| ** **                                                       | ** ** | **2008** | ** ** | **2007** | ** ** | **2006**  | ** ** |
|------------------------------------------------------------------|------------|----------|------------|----------|------------|-----------|------------|
| Weighted average  grant-date fair value of stock options granted |       | N/A      |       | $        | 6.62       |      | $          | 5.44 |   |
| Total fair value  of stock options vested                        |       | —   |       | 42,935   |       | 2,931,386 |       |
| Total intrinsic  value of stock options exercised                |       | N/A      |       | $        | -0-        |      | $          | 8,239 |   |

 

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For the years ended December 31,2008, 2007 and 2006 the Company recognized $273,000, $421,000 and $416,000,respectively, for stock option compensation expense.  The tax benefit of the compensation expensewas $76,000 for 2008, $109,000 for 2007 and $112,000 for 2006.  As of December 31, 2008 there was$382,000 in unrecognized compensation expense related to non-vested stockoptions. This unrecognized compensation cost has a weighted average life ofabout 2 years.

 

All options granted underthe plan, except for founder’s options (9,000 non-qualified options) andoptions to two individuals which were carried over from the NNB Holdings, Inc.plan (18,899) which were immediately exercisable, have been granted with a fiveyear vesting period.  Twenty percent ofsuch options are immediately exercisable, with the remaining 80% exercisable at20% per year, over each of the next four anniversary dates of the grant.

 

On December 28,2005, the Directors of The Bank Holdings approved the acceleration ofnon-qualified stock options granted under The Bank Holdings Stock Option Planof 2002 as amended.  Non-qualified optionspreviously granted under this Plan were to be vested over a five year term.

 

**NOTE 18 – COMMON STOCK REPURCHASEPLAN**

 

During December 2007,the Company’s Board of Directors approved a plan to repurchase, as conditionswarrant, up to $3.0 million of the Company’s common stock on the open market orin privately negotiated transactions. The duration of the program is open ended and the timing of thepurchases will depend upon market conditions. The shares the Company repurchases under the stock repurchase plan areheld as authorized but unissued shares. During the year ended December 31, 2008, the Company repurchased36,920 shares on the open market for an aggregate purchase price of$46,000.  There were no common stockrepurchases in 2007.  At December 31,2008, the Company had $2,954,000 remaining for the repurchase of common stockshares under the stock repurchase plan.

 

**NOTE 19 – RELATED PARTYTRANSACTIONS**

 

In the ordinary course ofbusiness, the Company has had, and may be expected to have in the future,banking transactions with directors, significant stockholders, principalofficers, their immediate families and affiliated companies in which they areprincipal stockholders (commonly referred to as related parties).  In management’s opinion, these loan anddeposit transactions were on the same terms as those for comparable loan anddeposit transactions with non-related parties.

 
| ** **                                   | ** ** | **For the Years Ended   December, 31** | ** ** |
|----------------------------------------------|------------|-----------------------------------------------------------------|------------|
| **Loan Transactions**                   | ** ** | **2008**                                                        | ** ** | **2007** | ** ** |
| ** **                                   | ** ** | **(Dollars in thousands)**                            | ** ** |
| **Balance,  Beginning**                      |       | $                                                               | 12,369     |   | $ | 11,204 |   |
| New loans                                    |       | 4,240                                                           |       | 11,269 |   |
| Repayments                                   |       | (8,755                                                          | )          | (10,104 | ) |
| **Balance,  Ending**                         |       | $                                                               | 7,854      |   | $ | 12,369 |   |
|                                         |       |                                                            |       |   |   |
| Undisbursed  commitments to related parties, |       | $                                                               | 5,107      |   | $ | 4,580 |   |
|                                         |       |                                                            |       |   |   |
| Deposit balances  of related parties         |       | $                                                               | 2,580      |   | $ | 6,583 |   |

 

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**NOTE 20 – FAIR VALUE OF FINANCIALINSTRUMENTS**

 

Financial AccountingStandards Board (FASB) Statement No. 107, *DisclosuresAbout Fair Value of Financial Instruments,* requires disclosure offair value information about financial instruments, whether or not recognizedin the balance sheets, for which it is practicable to estimate that value.

 

Management uses its bestjudgment in estimating the fair value of the Company’s financial instruments;however, there are inherent weaknesses in any estimation technique.  Therefore, for substantially all financialinstruments, the fair value estimates presented herein are not necessarily indicativeof the amounts the Company could realize in a sales transaction at December 31,2008 or 2007.  The estimated fair valueamounts have been measured as of year end, and have not been reevaluated orupdated for purposes of these financial statements subsequent to these dates.  As such, the estimated fair values of thesefinancial instruments subsequent to the reporting dates may be different thanthe amounts reported at year-end.

 

The information shouldnot be interpreted as an estimate of the fair value of the entire Company sincea fair value calculation is only required for a limited portion of the Company’sassets, and due to the wide range of valuation techniques and the degree ofsubjectivity used in making the estimate, comparisons between the Company’sdisclosures and those of other companies or banks may not be meaningful.  The following methods and assumptions wereused by the Company in estimating fair value disclosures for financialinstruments.

 

***Cashand cash equivalents***

The carrying amounts ofcash, due from banks, liquid money market funds, and federal funds soldapproximate fair value.

 

***Securitiesheld to maturity and available for sale***

Fair values forsecurities are based on quoted market prices, where available.  If quoted market prices are not available,fair values are based on quoted market prices of comparable instruments.

 

***TradingSecurities***

Fair values for tradingequity securities are based on quoted market prices.

 

***Non-marketableSecurities***

The reported amount ofFederal Home Loan Bank (FHLB) stock equals its fair value due to the fact thatthe shares can only be redeemed by the FHLB at the $100 per share value.  No ready market exists for the Pacific CoastBankers’ Bancshares stock and it has no quoted market value.  The Company’s other debt and equityinvestments including Carson River Community Bank are reported at book valuewhich equals its fair value due to the fact that these items have no quotedmarket value.

 

***Loans***

For variable-rate loansthat reprice frequently and with no significant change in credit risk, fairvalues are based on carrying values.  Thefair values for all other loans are estimated using discounted cash flowanalyses, using interest rates currently being offered for loans with similarterms to borrowers with similar credit quality.

 

***Depositliabilities***

The fair values disclosedfor deposits with no defined maturities are equal to their carrying amountswhich represent the amount payable on demand. The carrying amounts for variable-rate, fixed-term money market accountsand certificates of deposit approximate their fair value at the reportingdate.  Fair values for fixed-rate certificatesof deposit are estimated using a discounted cash flow calculation that appliesinterest rates currently being offered on certificates to a schedule ofaggregated expected monthly maturities on time deposits.

 

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***Otherborrowed funds***

The carrying amount ofFHLB advances and Federal Funds purchased approximate fair value due to thenext day maturity.  The FHLB termadvances are estimated using discounted cash flow analyses, using interestrates currently being offered for advances with similar terms to borrowers withsimilar credit quality.

 

***JuniorSubordinated Debt***

The carrying amount ofthe variable junior subordinated debt approximates fair value due to the factthat interest rates reprice on $15 million quarterly.  The fair value on the $5 million fixed ratejunior subordinated debt is estimated using discounted cash flow analyses,using interest rates currently being offered with similar terms to companieswith similar credit quality.

 

***Accruedinterest receivable and payable***

The carrying amounts ofaccrued interest receivable and payable approximate fair value.

 

***Off-balancesheet instruments***

Fair values for theCompany’s off-balance sheet lending commitments (commitments to extend credit)are based on fees currently charged to enter into similar agreements, takinginto account the remaining terms of the agreements and the counterparties’credit standing. As of December 31, 2008 and 2007, loan commitments onwhich the committed fixed interest rate is less than the current market rateare insignificant.

 

The estimated fairvalues, and related carrying amounts, of the Company’s financial instrumentsare as follows:

 
| ** **                     | ** ** | **December 31,**   | ** ** |
|--------------------------------|------------|-------------------------|------------|
| ** **                     | ** ** | **2008**                | ** ** | **2007** | ** ** |
| ** **                     | ** ** | **Carrying  Amount**    | ** ** | **Fair  Value** | ** ** | **Carrying  Amount** | ** ** | **Fair  Value** | ** ** |
| ** **                     | ** ** | **(in thousands)** | ** ** |
| Financial  Assets:             |       |                    |       |   |   |   |   |   |   |
| Cash and due from  banks       |       | $                       | 21,260     |   | $ | 21,260 |   | $ | 13,857 |   | $ | 13,857 |   |
| Liquid money  market funds     |       | 883                     |       | 883 |   | 323 |   | 323 |   |
| Federal funds  sold            |       | 965                     |       | 965 |   | — |   | — |   |
| Securities  available-for-sale |       | 1,766                   |       | 1,766 |   | 17,996 |   | 17,996 |   |
| Securities  held-to-maturity   |       | 58,755                  |       | 58,228 |   | 62,280 |   | 62,093 |   |
| Trading  Securities            |       | 83                      |       | 83 |   | 4,729 |   | 4,729 |   |
| Other equity  securities       |       | 4,306                   |       | 4,306 |   | 6,214 |   | 6,214 |   |
| Fair value  loans, net         |       | 858                     |       | 858 |   | 897 |   | 897 |   |
| Loans, gross                   |       | 440,363                 |       | 468,461 |   | 473,872 |   | 466,097 |   |
| Accrued interest  receivable   |       | 2,385                   |       | 2,385 |   | 2,955 |   | 2,955 |   |
|                           |       |                    |       |   |   |   |   |   |   |
| Financial  Liabilities:        |       |                    |       |   |   |   |   |   |   |
| Deposits                       |       | 466,012                 |       | 471,012 |   | 451,335 |   | 450,227 |   |
| Other borrowed  funds          |       | 27,000                  |       | 27,521 |   | 70,610 |   | 70,532 |   |
| Junior  Subordinated debt      |       | 20,619                  |       | 19,157 |   | 20,619 |   | 20,478 |   |
| Accrued interest  payable      |       | 1,360                   |       | 1,360 |   | 955 |   | 955 |   |
|                                |            |                         |            |  |  |  |  |  |  |  |  |  |  |

 

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**NOTE 21 — SEGMENT INFORMATION**

 

SFAS No. 131, *Financial Reporting for Segments of a Business Enterprise*,requires that a public business enterprise report financial and descriptiveinformation about its reportable operating segments.  According to the statement, operatingsegments are defined as components of an enterprise about which separatefinancial information is available that is evaluated regularly by the chiefoperating decision makers in deciding how to allocate resources and inassessing performance.

 

The Company evaluatessegment performance internally based on the bank charter, the 1031 QI operatingdivision, and “other”.  The operatingsegment defined as “other” includes the Parent company, and eliminations oftransactions between segments.

 

The accounting policiesof the individual operating segments are the same as those of the Company, asdescribed in NOTE 1.  Transactionsbetween operating segments are conducted at fair value, resulting in profitsthat are eliminated for reporting consolidated results of operations.

 

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| ** **                                                             | ** ** | **The Bank Holdings Segment Information** | ** ** |
|------------------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                             | ** ** | ** **                                                    | ** ** | **1031** | ** ** | ** ** | ** ** | **Inter-  Company** | ** ** | ** ** | ** ** |
| **For the Year ended December 31, 2008** | ** ** | **Bank**                                                      | ** ** | **Division** | ** ** | **Parent** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **Income  Statement**                                                  |       |                                                          |       |   |   |   |   |   |   |   |   |
| Interest Income                                                        |       | $                                                             | 36,399     |   | $ | 623 |   | $ | 408 |   | $ | (605 | ) | $ | 36,826 |   |
| Interest Expense                                                       |       | 16,754                                                        |       | 334 |   | 1,007 |   | (605 | ) | 17,490 |   |
| Net interest  income                                                   |       | 19,645                                                        |       | 289 |   | (599 | ) | — |   | 19,336 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Provision for  loan losses                                             |       | 4,025                                                         |       | — |   | — |   | — |   | 4,025 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net interest  income after provision                                   |       | 15,620                                                        |       | 289 |   | (599 | ) | — |   | 15,311 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  income                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Service Charges  on deposit accounts                                   |       | 611                                                           |       | 6 |   | — |   | — |   | 617 |   |
| Other service  charges, commissions and fees                           |       | 158                                                           |       | 82 |   | — |   | — |   | 240 |   |
| Income on bank  owned life insurance                                   |       | 360                                                           |       | — |   | — |   | — |   | 360 |   |
| Exchange fee  income                                                   |       | 82                                                            |       | — |   | — |   | — |   | 82 |   |
| Net (loss) gain  on trading securities                                 |       | (997                                                          | )          | — |   | — |   | — |   | (997 | ) |
| Other income                                                           |       | (8,308                                                        | )          | (14 | ) | (7,293 | ) | — |   | (15,616 | ) |
| Total  non-interest income                                             |       | (8,094                                                        | )          | 74 |   | (7,293 | ) | — |   | (15,314 | ) |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  expense                                                  |       |                                                          |       |   |   |   |   |   |   |   |   |
| Salaries and  benefits                                                 |       | 8,342                                                         |       | 489 |   | 663 |   | — |   | 9,493 |   |
| Occupancy                                                              |       | 2,374                                                         |       | 203 |   | 162 |   | — |   | 2,739 |   |
| Marketing                                                              |       | 475                                                           |       | 54 |   | — |   | — |   | 529 |   |
| Data Processing                                                        |       | 494                                                           |       | 21 |   | 23 |   | — |   | 538 |   |
| Deposit and loan  servicing costs                                      |       | 1,641                                                         |       | — |   | — |   | — |   | 1,641 |   |
| Accounting and  legal                                                  |       | 136                                                           |       | 121 |   | 650 |   | — |   | 907 |   |
| Other  professional services                                           |       | 274                                                           |       | 6 |   | 172 |   | — |   | 452 |   |
| Telephone and  data communications                                     |       | 414                                                           |       | 44 |   | 141 |   | — |   | 599 |   |
| Goodwill  impairment                                                   |       | 16,628                                                        |       |   |   |   |   |   |   | 16,628 |   |
| Other expenses                                                         |       | 1,040                                                         |       | 156 |   | 9,688 |   | — |   | 10,883 |   |
| Total  non-interest expenses                                           |       | 31,818                                                        |       | 1,094 |   | 11,499 |   | — |   | 44,409 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net income  (loss) before taxes and other                              |       | (24,292                                                       | )          | (731 | ) | (19,391 | ) | — |   | (44,412 | ) |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Attributable to  minority shareholders                                 |       | —                                                        |       | — |   | — |   | — |   | — |   |
| Income tax  provision (benefit)                                        |       | (3,668                                                        | )          | (278 | ) | (3,082 | ) | — |   | (7,028 | ) |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net Income  (loss)                                                     |       | $                                                             | (20,623    | ) | $ | (453 | ) | $ | (16,309 | ) | — |   | $ | (37,384 | ) |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| **Balance  Sheet**                                                     |       |                                                          |       |   |   |   |   |   |   |   |   |
| Assets                                                                 |       |                                                          |       |   |   |   |   |   |   |   |   |
| Cash and due  from banks                                               |       | $                                                             | 21,046     |   | $ | 5,623 |   | $ | 410 |   | $ | (5,820 | ) | $ | 21,258 |   |
| Investments in  subsidiaries                                           |       | —                                                        |       | — |   | 51,462 |   | (51,462 | ) | — |   |
| Investment  portfolio                                                  |       | 64,218                                                        |       | — |   | 2,539 |   | — |   | 66,758 |   |
| Loans                                                                  |       | 432,226                                                       |       | — |   | — |   | — |   | 432,226 |   |
| Fixed Assets                                                           |       | 7,280                                                         |       | 7 |   | 109 |   | — |   | 7,396 |   |
| Intangibles                                                            |       | 4,104                                                         |       | — |   | — |   | — |   | 4,104 |   |
| Other assets                                                           |       | 18,320                                                        |       | 44 |   | 5,973 |   | (34 | ) | 24,303 |   |
| Total Assets                                                           |       | $                                                             | 547,194    |   | $ | 5,674 |   | $ | 60,493 |   | $ | (57,316 | ) | $ | 556,045 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Liabilities                                                            |       |                                                          |       |   |   |   |   |   |   |   |   |
| Deposits                                                               |       | $                                                             | 466,465    |   | $ | — |   | $ | — |   | $ | (453 | ) | $ | 466,012 |   |
| Borrowing                                                              |       | 27,000                                                        |       | — |   | 20,619 |   | — |   | 47,619 |   |
| Other  liabilities                                                     |       | 2,494                                                         |       | 5,448 |   | 2,630 |   | (5,402 | ) | 5,170 |   |
| Total  Liabilities                                                     |       | 495,959                                                       |       | 5,448 |   | 23,249 |   | (5,855 | ) | 518,801 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Shareholders’  Equity                                             |       | 51,236                                                        |       | 226 |   | 37,244 |   | (51,462 | ) | 37,244 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Total  Liabilities and Shareholders’ Equity                       |       | $                                                             | 547,195    |   | $ | 5,674 |   | $ | 60,493 |   | $ | (57,317 | ) | $ | 556,045 |   |

 

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| ** **                                                             | ** ** | **The Bank Holdings Segment Information** | ** ** |
|------------------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                             | ** ** | ** **                                                    | ** ** | **1031** | ** ** | ** ** | ** ** | **Inter-  Company** | ** ** | ** ** | ** ** |
| **For the Year ended December 31, 2007** | ** ** | **Bank**                                                      | ** ** | **Division** | ** ** | **Parent** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **Income  Statement**                                                  |       |                                                          |       |   |   |   |   |   |   |   |   |
| Interest Income                                                        |       | $                                                             | 44,316     |   | $ | 1,942 |   | $ | 325 |   | $ | (1,400 | ) | $ | 45,183 |   |
| Interest Expense                                                       |       | 21,945                                                        |       | 1,059 |   | 1,360 |   | (1,400 | ) | 22,964 |   |
| Net interest  income                                                   |       | 22,371                                                        |       | 883 |   | (1,035 | ) |   |   | 22,219 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Provision for  loan losses                                             |       | 3,007                                                         |       | — |   | — |   | — |   | 3,007 |   |
| Net interest  income after provision                                   |       | 19,364                                                        |       | 883 |   | (1,035 | ) | — |   | 19,212 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  income                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Service Charges  on deposit accounts                                   |       | 425                                                           |       | — |   | — |   | — |   | 425 |   |
| Other service  charges and fees                                        |       | 370                                                           |       | 11 |   | — |   | — |   | 381 |   |
| Bank owned life  insurance                                             |       | 393                                                           |       | — |   | — |   | — |   | 393 |   |
| Exchange fee  income                                                   |       | —                                                        |       | 163 |   | — |   | — |   | 163 |   |
| Unrealized gain  on trading securities                                 |       | —                                                        |       | — |   | 118 |   | — |   | 118 |   |
| Other income                                                           |       | (62                                                           | )          | — |   | 4 |   | — |   | (58 | ) |
| Total  non-interest income                                             |       | 1,126                                                         |       | 174 |   | 122 |   | — |   | 1,422 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  expense                                                  |       |                                                          |       |   |   |   |   |   |   |   |   |
| Salaries and  benefits                                                 |       | 7,851                                                         |       | 855 |   | 860 |   | — |   | 9,566 |   |
| Occupancy                                                              |       | 2,379                                                         |       | 164 |   | 166 |   | — |   | 2,709 |   |
| Marketing                                                              |       | 644                                                           |       | 160 |   | 62 |   | — |   | 866 |   |
| Data Processing                                                        |       | 546                                                           |       | 66 |   | 17 |   | — |   | 629 |   |
| Deposit and loan  servicing costs                                      |       | 1,011                                                         |       | 6 |   | 2 |   | — |   | 1,018 |   |
| Accounting and  legal                                                  |       | 254                                                           |       | 39 |   | 587 |   | — |   | 880 |   |
| Other professional  services                                           |       | 228                                                           |       | 24 |   | 366 |   | — |   | 618 |   |
| Telephone and  data communications                                     |       | 473                                                           |       | 59 |   | 23 |   | — |   | 555 |   |
| Other expenses                                                         |       | 907                                                           |       | 181 |   | 377 |   | — |   | 1,466 |   |
| Total  non-interest expenses                                           |       | 14,293                                                        |       | 1,554 |   | 2,460 |   | — |   | 18,307 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net income  (loss) before taxes and other                              |       | 6,197                                                         |       | (497 | ) | (3,373 | ) | — |   | 2,326 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Attributable to  minority shareholders                                 |       | —                                                        |       | — |   | (27 | ) | — |   | (27 | ) |
| Income tax  provision (benefit)                                        |       | 1,877                                                         |       | (164 | ) | (1,088 | ) | — |   | 625 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net Income  (loss)                                                     |       | $                                                             | 4,320      |   | $ | (333 | ) | $ | (2,258 | ) | — |   | $ | 1,729 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| **Balance  Sheet**                                                     |       |                                                          |       |   |   |   |   |   |   |   |   |
| Assets                                                                 |       |                                                          |       |   |   |   |   |   |   |   |   |
| Cash and due  from banks                                               |       | $                                                             | 9,740      |   | $ | 26,509 |   | $ | 635 |   | $ | (23,027 | ) | $ | 13,857 |   |
| Investments in  subsidiaries                                           |       | —                                                        |       | — |   | 77,682 |   | (77,682 | ) | — |   |
| Investment  portfolio                                                  |       | 80,271                                                        |       | — |   | 11,271 |   | — |   | 91,542 |   |
| Loans                                                                  |       | 466,238                                                       |       | — |   | — |   | — |   | 466,238 |   |
| Fixed Assets                                                           |       | 7,267                                                         |       | 108 |   | 137 |   | — |   | 7,512 |   |
| Intangibles                                                            |       | 20,872                                                        |       | — |   | 4,544 |   | 5,287 |   | 30,703 |   |
| Other assets                                                           |       | 15,741                                                        |       | 411 |   | 970 |   | (334 | ) | 16,788 |   |
|  Total  Assets                                                    |       | $                                                             | 600,129    |   | $ | 27,028 |   | $ | 95,238 |   | $ | (95,755 | ) | $ | 626,640 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Liabilities                                                            |       |                                                          |       |   |   |   |   |   |   |   |   |
| Deposits                                                               |       | $                                                             | 452,612    |   | $ | — |   | $ | — |   | $ | (1,278 | ) | $ | 451,335 |   |
| Borrowing                                                              |       | 70,610                                                        |       | — |   | 20,619 |   | — |   | 91,229 |   |
| Other  liabilities                                                     |       | 4,096                                                         |       | 26,349 |   | (218 | ) | (20,988 | ) | 9,239 |   |
| Total  Liabilities                                                     |       | 527,319                                                       |       | 26,349 |   | 20,401 |   | (22,266 | ) | 551,803 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Shareholders’  Equity                                             |       | 72,810                                                        |       | 679 |   | 74,837 |   | (73,489 | ) | 74,837 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Total  Liabilities and Shareholders’ Equity                       |       | $                                                             | 600,129    |   | $ | 27,028 |   | $ | 95,238 |   | $ | (95,755 | ) | $ | 626,640 |   |

 

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| ** **                                                             | ** ** | **The Bank Holdings Segment Information** | ** ** |
|------------------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                                                             | ** ** | ** **                                                    | ** ** | **1031** | ** ** | ** ** | ** ** | **Inter-Company** | ** ** | ** ** | ** ** |
| **For the Year ended December 31, 2006** | ** ** | **Bank**                                                      | ** ** | **Division *** | ** ** | **Parent** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net interest  income                                                   |       | $                                                             | 15,939     |   | $ | 1,521 |   | $ | (366 | ) | $ | (1,138 | ) | $ | 15,956 |   |
| Provision for  loan losses                                             |       | 771                                                           |       | — |   | — |   | — |   | 771 |   |
| Net interest  income after provision                                   |       | 15,168                                                        |       | 1,521 |   | (366 | ) | (1,138 | ) | 15,185 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  income                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Service Charges  on deposit accounts                                   |       | 261                                                           |       | — |   | — |   | — |   | 261 |   |
| Other service  charges and fees                                        |       | 190                                                           |       | — |   | — |   | — |   | 190 |   |
| Bank owned life  insurance                                             |       | 307                                                           |       | — |   | — |   | — |   | 307 |   |
| Exchange fee  income                                                   |       | —                                                        |       | 448 |   | — |   | — |   | 448 |   |
| Unrealized gain  on trading securities                                 |       | —                                                        |       | — |   | 443 |   | — |   | 443 |   |
| Other income                                                           |       | 2                                                             |       | — |   | 31 |   | — |   | 33 |   |
| Total  non-interest income                                             |       | 760                                                           |       | 448 |   | 474 |   | — |   | 1,682 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Non-interest  expense                                                  |       |                                                          |       |   |   |   |   |   |   |   |   |
| Salaries and  benefits                                                 |       | 5,976                                                         |       | 725 |   | 916 |   | — |   | 7,617 |   |
| Occupancy                                                              |       | 1,643                                                         |       | 114 |   | 164 |   | — |   | 1,921 |   |
| Marketing                                                              |       | 365                                                           |       | 115 |   | 47 |   | — |   | 527 |   |
| Data Processing                                                        |       | 856                                                           |       | 82 |   | 22 |   | — |   | 960 |   |
| Deposit and loan  servicing costs                                      |       | 604                                                           |       | — |   | — |   | — |   | 604 |   |
| Accounting and  legal                                                  |       | 131                                                           |       | 16 |   | 224 |   | — |   | 371 |   |
| Other  professional services                                           |       | 123                                                           |       | 35 |   | 41 |   | — |   | 199 |   |
| Telephone and  data communications                                     |       | 195                                                           |       | 18 |   | 92 |   | — |   | 305 |   |
| Other expenses                                                         |       | 780                                                           |       | 129 |   | 169 |   | — |   | 1,078 |   |
| Total  non-interest expenses                                           |       | 10,673                                                        |       | 1,234 |   | 1,675 |   | — |   | 13,582 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net income  (loss) before taxes and other                              |       | 5,255                                                         |       | 736 |   | (1,567 | ) | (1,138 | ) | 3,285 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Attributable to  minority shareholders                                 |       | —                                                        |       | 127 |   | — |   | — |   | 127 |   |
| Income tax  provision (benefit)                                        |       | 1,338                                                         |       | 315 |   | (578 | ) | — |   | 1,075 |   |
|                                                                   |       |                                                          |       |   |   |   |   |   |   |   |   |
| Net Income  (loss)                                                     |       | $                                                             | 3,917      |   | $ | 294 |   | $ | (989 | ) | $ | (1,138 | ) | $ | 2,083 |   |

 

----

*1031 Division is only 8 months of average data.

 

**NOTE 22 — CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY**

 

**Financial InformationPertaining only to The Bank Holdings is as follows:**

 

**Statement of Condition**

** **
| ** **                                       | ** ** | **December 31,** | ** ** |
|--------------------------------------------------|------------|-----------------------|------------|
| ** **                                       | ** ** | **2008**              | ** ** | **2007** | ** ** |
| ASSETS                                           |       |                  |       |   |   |
| Cash and due  from banks                         |       | $                     | 410        |   | $ | 635 |   |
| Liquid money  market funds                       |       | 7                     |       | 323 |   |
| Cash and Cash  Equivalents                       |       | 417                   |       | 958 |   |
|                                             |       |                  |       |   |   |
| Securities  available for sale                   |       | 1,330                 |       | 5,718 |   |
| Securities  trading                              |       | 83                    |       | 4,729 |   |
| Other equity  investments                        |       | 1,119                 |       | 500 |   |
| Investment in  Nevada Security Bank              |       | 51,236                |       | 72,192 |   |
| Investment in  non-bank subsidiaries             |       | 226                   |       | 5,490 |   |
| Premises and  equipment, net                     |       | 109                   |       | 137 |   |
| Goodwill                                         |       | —                |       | 4,544 |   |
| Other assets                                     |       | 5,973                 |       | 970 |   |
| TOTAL ASSETS                                     |       | $                     | 60,493     |   | $ | 95,238 |   |
|                                             |       |                  |       |   |   |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY       |       |                  |       |   |   |
|                                             |       |                  |       |   |   |
| Notes Payable                                    |       | $                     | —     |   | $ | — |   |
| Subordinated  debentures                         |       | 20,619                |       | 20,619 |   |
| Accrued expenses  and other liabilities          |       | 2,630                 |       | (218 | ) |
| Total  Liabilities                               |       | 23,249                |       | 20,401 |   |
|                                             |       |                  |       |   |   |
| Stockholders’  Equity                       |       |                  |       |   |   |
| Total  Stockholders’ Equity                 |       | 37,244                |       | 74,837 |   |
|                                             |       |                  |       |   |   |
| TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY |       | $                     | 60,493     |   | $ | 95,238 |   |

 

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**Statement of Operations:**

 
| ** **                                                | ** ** | **December 31,**                | ** ** |
|-----------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                | ** ** | **2008**                             | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                                                | ** ** | **(Dollars in thousands)** | ** ** |
| **Interest  Income:**                                     |       |                                 |       |   |   |   |   |
| Liquid investments                                        |       | $                                    | 3          |   | $ | 108 |   | $ | 328 |   |
| Securities,  taxable                                      |       | 405                                  |       | 172 |   | 248 |   |
| Securities, non-taxable                                   |       | —                               |       | 9 |   | — |   |
| Dividends                                                 |       | —                               |       | 36 |   | 125 |   |
| Total interest  and dividend income                       |       | 408                                  |       | 325 |   | 701 |   |
|                                                      |       |                                 |       |   |   |   |   |
| **Interest  Expense:**                                    |       |                                 |       |   |   |   |   |
| Notes payable                                             |       | —                               |       | 11 |   | 37 |   |
| Subordinated  debentures                                  |       | 1,007                                |       | 1,349 |   | 1,031 |   |
| Total Interest  Expense                                   |       | 1,007                                |       | 1,360 |   | 1,068 |   |
|                                                      |       |                                 |       |   |   |   |   |
| Net interest  Income                                      |       | (599                                 | )          | (1,035 | ) | (367 | ) |
|                                                      |       |                                 |       |   |   |   |   |
| **Non-Interest  Income:**                                 |       |                                 |       |   |   |   |   |
| Unrealized  (loss) gain on trading securities             |       | (997                                 | )          | 118 |   | 443 |   |
| Realized (loss)  gain on sale of investment securities    |       | (6,296                               | )          | 4 |   | 31 |   |
| Total Non-Interest  Income                                |       | (7,293                               | )          | 122 |   | 474 |   |
|                                                      |       |                                 |       |   |   |   |   |
| **Non-Interest  Expense:**                                |       |                                 |       |   |   |   |   |
| Salaries and  employee benefits                           |       | 663                                  |       | 860 |   | 915 |   |
| Occupancy and equipment                                   |       | 162                                  |       | 199 |   | 164 |   |
| Data processing                                           |       | 23                                   |       | 17 |   | 22 |   |
| Accounting and  legal                                     |       | 650                                  |       | 587 |   | 224 |   |
| Goodwill  impairment                                      |       | 10,283                               |       |   |   |   |   |
| Other                                                     |       | (283                                 | )          | 830 |   | 351 |   |
| Total Non-Interest  Expense                               |       | 11,498                               |       | 2,460 |   | 1,676 |   |
|                                                      |       |                                 |       |   |   |   |   |
| **Net  loss before benefit for income taxes and other**   |       | (19,390                              | )          | (3,373 | ) | (1,569 | ) |
|                                                      |       |                                 |       |   |   |   |   |
| Benefit for  income taxes                                 |       | (3,082                               | )          | (1,088 | ) | (578 | ) |
|                                                      |       |                                 |       |   |   |   |   |
| **Net  loss before equity in net income of subsidiaries** |       | (16,308                              | )          | (2,285 | ) | (991 | ) |
|                                                      |       |                                 |       |   |   |   |   |
| Equity in net  income of subsidiaries                     |       | (21,076                              | )          | 4,014 |   | 3,074 |   |
|                                                      |       |                                 |       |   |   |   |   |
| **Net  (Loss) Income**                                    |       | $                                    | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   |

 

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**Statement of Cash Flows:**

 
| ** **                                                                               | ** ** | **Periods Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                               | ** ** | **2008**                                      | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from operating activities:**                                               |       |                                          |       |   |   |   |   |
| Net (loss) income                                                                        |       | $                                             | (37,384    | ) | $ | 1,729 |   | $ | 2,083 |   |
| Adjustments to  reconcile net income to cash provided by (used in) operating activities: |       |                                          |       |   |   |   |   |
| Equity in net loss  (income) of subsidiaries                                             |       | 19,938                                        |       | (4,014 | ) | (3,074 | ) |
| Stock option  compensation expense                                                       |       | 273                                           |       | 421 |   | 417 |   |
| Net amortization  of securities                                                          |       | 65                                            |       | 211 |   | 4 |   |
| Depreciation                                                                             |       | 29                                            |       | 28 |   | 24 |   |
| Activity of  trading securities, net                                                     |       | 4,646                                         |       | 520 |   | (2,507 | ) |
| Unrealized gain  on trading securities                                                   |       | 997                                           |       | (118 | ) | (443 | ) |
| (Loss)/income  attributable to minority shareholders                                     |       | —                                        |       | (27 | ) | 127 |   |
| Realized (gain)  on sales of available for sale securities, net                          |       | 6,298                                         |       | (3 | ) | (31 | ) |
| Realized (gain)  on sales of fixed assets                                                |       | 1                                             |       | — |   | — |   |
| Net change in:                                                                           |       |                                          |       |   |   |   |   |
| Other assets and  liabilities, net                                                       |       | 5,788                                         |       | (1,299 | ) | (2,027 | ) |
| **Net  cash (used in) provided by operating activities**                                 |       | 652                                           |       | (2,552 | ) | (5,427 | ) |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from investing activities:**                                               | ** ** | ** **                                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| Activity in  available for sale securities:                                              |       |                                          |       |   |   |   |   |
| Proceeds from  sales, maturities, prepayments and calls                                  |       | 3,971                                         |       | 3,149 |   | 1,531 |   |
| Purchases                                                                                |       | (4,078                                        | )          | (3,824 | ) | (4,827 | ) |
| Investment in  non-bank subsidiaries, net                                                |       | (1,040                                        | )          | (358 | ) | (3,722 | ) |
| Purchase of  intangible assets                                                           |       | —                                        |       | — |   | (7,500 | ) |
| Investment in  bank                                                                      |       | —                                        |       | — |   | — |   |
| Investment in  trust subsidiary                                                          |       | —                                        |       | — |   | — |   |
| Purchases of  premises and equipment, net                                                |       | —                                        |       | — |   | (10 | ) |
| **Net  cash provided by (used in) investing activities**                                 |       | (1,147                                        | )          | (1,033 | ) | 14,528 | ) |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  flows from financing activities:**                                               | ** ** | ** **                                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| Proceeds short  term debt, net                                                           |       | —                                        |       | (530 | ) | 530 |   |
| Proceeds from  subordinated debentures                                                   |       | —                                        |       | — |   |   |   |
| Proceeds from  private placement                                                         |       | —                                        |       | — |   | 11,539 |   |
| Proceeds from  exercise of stock warrants                                                |       | —                                        |       | — |   | 3,389 |   |
| Proceeds from  exercise of stock options                                                 |       | —                                        |       | — |   | 10 |   |
| Purchase of  treasury stock                                                              |       | (46                                           | )          | — |   | — |   |
| **Net  cash (used in) provided by financing activities**                                 |       | (46                                           | )          | (530 | ) | 15,468 |   |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Net  change in cash and cash equivalents**                                             |       | (541                                          | )          | (4,115 | ) | (4,487 | ) |
|                                                                                     |       |                                          |       |   |   |   |   |
| **Cash  and cash equivalents at beginning of the period**                                |       | 958                                           |       | 5,073 |   | 9,560 |   |
| **Cash  and cash equivalents at the end of the period**                                  |       | $                                             | 417        |   | $ | 958 |   | $ | 5,073 |   |

 

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**NOTE 23 – QUARTERLY DATA(UNADUDITED)**

 
| ** **                                                                                   | ** ** | **Periods Ended** | ** ** |
|----------------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                                   | ** ** | **2008**               | ** ** | **2007** | ** ** |
| ** **                                                                                   | ** ** | **4th Qtr**       | ** ** | **3rd Qtr** | ** ** | **2nd Qtr** | ** ** | **1st Qtr** | ** ** | **4th Qtr** | ** ** | **3rd Qtr** | ** ** | **2nd Qtr** | ** ** | **1st Qtr** | ** ** |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest and  Dividend Income                                                                |       | $                      | 8,136      |   | $ | 8,971 |   | $ | 9,411 |   | $ | 10,308 |   | $ | 11,076 |   | $ | 11,543 |   | $ | 11,222 |   | $ | 11,342 |   |
| Interest Expense                                                                             |       | 4,275                  |       | 4,062 |   | 4,170 |   | 4,983 |   | 5,465 |   | 5,923 |   | 5,584 |   | 5,992 |   |
| Net Interest  Income                                                                         |       | 3,861                  |       | 4,909 |   | 5,241 |   | 5,325 |   | 5,611 |   | 5,620 |   | 5,638 |   | 5,350 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Provision for  Loan Losses                                                                   |       | 2,585                  |       | 150 |   | 1,140 |   | 150 |   | 2,247 |   | 346 |   | 234 |   | 180 |   |
| Net Interest Income  after Provision                                                         |       | 1,276                  |       | 4,759 |   | 4,101 |   | 5,175 |   | 3,364 |   | 5,274 |   | 5,204 |   | 5,170 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Non-Interest  Income                                                                         |       | (1,298                 | )          | (14,084 | ) | 151 |   | (82 | ) | 232 |   | 163 |   | 605 |   | 422 |   |
| Non-Interest  Expense                                                                        |       | 4,495                  |       | 30,794 |   | 4,535 |   | 4,586 |   | 4,432 |   | 4,263 |   | 4,679 |   | 4,933 |   |
| (Loss) Income  before Taxes                                                                  |       | (4,517                 | )          | (40,119 | ) | (283 | ) | 507 |   | (836 | ) | 1,174 |   | 1,330 |   | 659 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Income (Loss)  attributable to Minority Shareholders                                         |       | —                 |       | — |   | — |   | — |   | 1 |   | 11 |   | (15 | ) | (24 | ) |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| (Benefit)  Provision for Taxes                                                               |       | (1,645                 | )          | (5,073 | ) | (308 | ) | (2 | ) | (555 | ) | 413 |   | 541 |   | 226 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net (Loss)  Income                                                                           |       | $                      | (2,872     | ) | $ | (35,046 | ) | $ | 25 |   | $ | 509 |   | $ | (282 | ) | $ | 750 |   | $ | 804 |   | $ | 457 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other Comprehensive  income (loss), unrealized gains/losses on securities available for sale |       | 444                    |       | 791 |   | (510 | ) | (155 | ) | (179 | ) | (122 | ) | (154 | ) | 38 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Comprehensive  (Loss) Income                                                                 |       | $                      | (2,428     | ) | $ | (34,255 | ) | $ | (485 | ) | $ | 354 |   | $ | (461 | ) | $ | 628 |   | $ | 650 |   | $ | 495 |   |
|                                                                                         |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| (Loss)/earnings per  common share:                                                           |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic                                                                                        |       | $                      | (0.49      | ) | $ | (6.01 | ) | $ | 0.00 |   | $ | 0.09 |   | $ | (0.05 | ) | $ | 0.13 |   | $ | 0.13 |   | $ | 0.08 |   |
| Diluted                                                                                      |       | $                      | (0.49      | ) | $ | (6.01 | ) | $ | 0.00 |   | $ | 0.09 |   | $ | (0.05 | ) | $ | 0.13 |   | $ | 0.13 |   | $ | 0.08 |   |

 

**NOTE 24 – NEW ACCOUNTING STANDARDS**

 

**Statements of Financial AccountingStandards**

 

SFAS No. 141*, “Business Combinations (Revised 2007).”*SFAS 141R replaces SFAS 141, “BusinessCombinations,” and applies to all transactions and other events in which one entityobtains control over one or more other businesses. SFAS 141R requires anacquirer, upon initially obtaining control of another entity, to recognize theassets, liabilities and any non-controlling interest in the acquiree at fairvalue as of the acquisition date. Contingent consideration is required to berecognized and measured at fair value on the date of acquisition rather than ata later date when the amount of that consideration may be determinable beyond areasonable doubt. This fair value approach replaces the cost-allocation processrequired under SFAS 141 whereby the cost of an acquisition was allocatedto the individual assets acquired and liabilities assumed based on theirestimated fair value. SFAS 141R requires acquirers to expense acquisition-relatedcosts as incurred rather than allocating such costs to the assets acquired andliabilities assumed, as was previously the 

 

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case under SFAS 141. Under SFAS 141R, therequirements of SFAS 146, “*Accounting for CostsAssociated with Exit or Disposal Activities*,” would have to be metin order to accrue for a restructuring plan in purchase accounting. Pre-acquisitioncontingencies are to be recognized at fair value, unless it is anon-contractual contingency that is not likely to materialize, in which case,nothing should be recognized in purchase accounting and, instead, thatcontingency would be subject to the probable and estimable recognition criteriaof SFAS 5, “*Accounting for Contingencies*.”SFAS 141R is expected to have a significant impact on the Company’saccounting for business combinations closing on or after January 1, 2009.

 

SFAS No. 157*, “Fair Value Measurements.”* SFAS 157 defines fair value, establishes a frameworkfor measuring fair value in generally accepted accounting principles, andexpands disclosures about fair value measurements.  Management adopted this statement effectiveas of January 1, 2007 (see NOTE 4 - Fair Value Measurement).

 

SFAS No. 158, “Employers’ Accounting for Defined BenefitPension and Other Postretirement Plans, an amendment of FASB Statements No. 87,88 106, and 132(R).” SFAS 158 requires an employer to recognize the overfundedor underfunded status of defined benefit post-retirement benefit plans as anasset or a liability in its statement of financial position. The funded statusis measured as the difference between plan assets at fair value and the benefitobligation (the projected benefit obligation for pension plans or theaccumulated benefit obligation for other post-retirement benefit plans). Anemployer is also required to measure the funded status of a plan as of the dateof its year-end statement of financial position with changes in the fundedstatus recognized through comprehensive income. SFAS 158 also requirescertain disclosures regarding the effects on net periodic benefit cost for thenext fiscal year that arise from delayed recognition of gains or losses, priorservice costs or credits, and the transition asset or obligation.  See NOTE 1 – Basis ofPresentation and Nature of Operations – Salary Continuation Plan, foradditional information related to these plans.

 

SFAS No. 159*, “The Fair Value Option for Financial Assets andFinancial Liabilities - Including an amendment of FASB Statement No. 115.”* SFAS 159 permits entities to choose to measure eligibleitems at fair value at specified election dates. Unrealized gains and losses onitems for which the fair value option has been elected are reported in earningsat each subsequent reporting date. The fair value option (i) may beapplied instrument by instrument, with certain exceptions, (ii) isirrevocable (unless a new election date occurs) and (iii) is applied onlyto entire instruments and not to portions of instruments. SFAS 159 becameeffective for the Company on January 1, 2007 (see NOTE 4 - Fair ValueMeasurements).

 

SFAS No. 160*, “Noncontrolling Interest in Consolidated FinancialStatements, an amendment of ARB Statement No. 51.”* SFAS 160 amends Accounting Research Bulletin (ARB) No. 51,“Consolidated Financial Statements,” to establish accounting and reportingstandards for the non-controlling interest in a subsidiary and for thedeconsolidation of a subsidiary. SFAS 160 clarifies that a non-controllinginterest in a subsidiary, which is sometimes referred to as minority interest,is an ownership interest in the consolidated entity that should be reported asa component of equity in the consolidated financial statements. Among otherrequirements, SFAS 160 requires consolidated net income to be reported atamounts that include the amounts attributable to both the parent and thenon-controlling interest. It also requires disclosure, on the face of the consolidatedincome statement, of the amounts of consolidated net income attributable to theparent and to the non-controlling interest. SFAS 160 is effective for theCompany on January 1, 2009 and is not expected to have a significantimpact on the Company’s financial statements.

 

SFAS No. 161*, “Disclosures About Derivative Instruments andHedging Activities, an Amendment of FASB Statement No. 133.”*SFAS 161 amends SFAS 133, “Accounting for DerivativeInstruments and Hedging Activities,” to amend and expand the disclosurerequirements of SFAS 133 to provide greater transparency about (i) howand why an entity uses derivative instruments, (ii) how derivativeinstruments and related hedge items are accounted for under SFAS 133 andits related interpretations, and (iii) how derivative instruments andrelated hedged items affect an entity’s financial position, results ofoperations and cash flows. To meet those objectives, SFAS 161 requiresqualitative disclosures about objectives and strategies for using derivatives,quantitative disclosures about fair value amounts of gains and losses onderivative instruments and disclosures about credit-risk-related contingentfeatures in derivative agreements. SFAS 161 is effective for the Companyon January 1, 2009 and is not expected to have a significant impact on theCompany’s financial statements.

 

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SFAS No. 162*, “The Hierarchy of Generally Accepted AccountingPrinciples.”*SFAS 162 identifies the sources of accounting principles and the frameworkfor selecting the principles to be used in the preparation of financialstatements of nongovernmental entities that are presented in conformity withgenerally accepted accounting principles (GAAP) in the United States (the GAAPhierarchy). The hierarchical guidance provided by SFAS 162 did not have asignificant impact on the Company’s financial statements.

 

**Financial Accounting Standards BoardStaff Positions and Interpretations**

 

FASB Interpretation No. 48*, “Accounting for Uncertainty in Income Taxes, aninterpretation of FASB Statement 109.”*Interpretation 48prescribes a recognition threshold and a measurement attribute for thefinancial statement recognition and measurement of a tax position taken orexpected to be taken in a tax return. Benefits from tax positions should berecognized in the financial statements only when it is more likely than notthat the tax position will be sustained upon examination by the appropriatetaxing authority that would have full knowledge of all relevant information. Atax position that meets the more-likely-than-not recognition threshold ismeasured at the largest amount of benefit that is greater than fifty percentlikely of being realized upon ultimate settlement. Tax positions thatpreviously failed to meet the more-likely-than-not recognition threshold shouldbe recognized in the first subsequent financial reporting period in which thatthreshold is met. Previously recognized tax positions that no longer meet themore-likely-than-not recognition threshold should be derecognized in the firstsubsequent financial reporting period in which that threshold is no longer met.Interpretation 48 also provides guidance on the accounting for anddisclosure of unrecognized tax benefits, interest and penalties. The adoptionof Interpretation 48 on January 1, 2007 did not significantly impactthe Company’s financial statements.

 

FSP No. 48-1*“Definition of Settlement in FASB Interpretation No. 48.”*FSP 48-1 provides guidance onhow to determine whether a tax position is effectively settled for the purposeof recognizing previously unrecognized tax benefits. FSP 48-1 waseffective retroactively to January 1, 2007 and did not significantlyimpact the Company’s financial statements.

 

FSP No. EITF 03-6-1*, “Determining Whether Instruments Granted inShare-Based Payment Transactions Are Participating Securities.”* FSP EITF 03-6-1 provides that unvested share-basedpayment awards that contain nonforfeitable rights to dividends or dividendequivalents (whether paid or unpaid) are participating securities and shall beincluded in the computation of earnings per share pursuant to the two-classmethod. FSP EITF 03-6-1 will be effective on January 1, 2009. Allpreviously reported earnings per share data will be retrospectively adjusted toconform with the provisions of FSP EITF 03-6-1.FSP EITF 03-6-1 is not expected to have a significant impact on theCompany’s financial statements.

 

FSP No. 157-3, “*Determiningthe Fair Value of a Financial Asset When the Market for That Asset is NotActive*.”  FSP No. 157-3clarifies the application of SFAS No. 157, “*Fair ValueMeasurements*,” in a market that is not active and provides anexample to illustrate key considerations in determining the fair value of afinancial asset when the market for that financial asset is not active.  This FSP was issued and effective on October 10,2008.  This FSP did not have asignificant impact on the Company’s financial statements.

 

**Emerging Issues Task Force Issues**

 

Emerging Issues Task Force(EITF) Issue No. 06-4*, “Accounting forDeferred Compensation and Postretirement Benefit Aspects of Endorsement SplitDollar Life Insurance Arrangements.”*EITF 06-4 requires the recognition of a liability and related compensationexpense for endorsement split-dollar life insurance policies that provide abenefit to an employee that extends to post-retirement periods. UnderEITF 06-4, life insurance policies purchased for the purpose of providingsuch benefits do not effectively settle an entity’s obligation to the employee.Accordingly, the entity must recognize a liability and related compensationexpense during the employee’s active service period based on the future cost ofinsurance to be incurred during the employee’s retirement. If the entity hasagreed to provide the employee with a death benefit, then the liability for thefuture death benefit should be recognized by following the guidance inSFAS 106, “Employer’s Accounting for Postretirement Benefits Other ThanPensions.” The Company adopted EITF 06-4 on January 1, 2008 as achange in accounting principle through a cumulative-effect adjustment toretained earnings totaling $1.1 million.

 

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Thelist of recent accounting and regulatory pronouncements noted above, while notan exhaustive list, includes those which the Company believes will, or may,have the greatest likelihood of application to the consolidated balance sheetsand/or consolidated statements of operations. We believe that adoption of these standards will not have a materialimpact on the Company’s financial condition, results of operations, earningsper share or cash flow, unless otherwise noted, however, no absolute assurancecan be given that this in fact will occur.

 

**NOTE 25– SUBSEQUENT EVENT**

 

EffectiveMarch 11, 2009, each of Jack B. Buchold, Harold G. Giomi, John N. Donovan,David A, Funk, and Joe Bourdeau, entered into an Agreement For Termination OfExecutive Supplemental Compensation And Split Dollar Agreements And Release AndWaiver (“Agreement”).  Under the Agreement, each individual will be paidthe nominal sum of $10,000 in consideration for the forfeiture of any rightsunder or interest in the (i) Executive Supplemental CompensationAgreement, as entered into by and between Nevada Security Bank and him and (ii) the Split Dollar Agreement, as entered into by and betweenthe Nevada Security Bank and him, each of which has been previouslyfiled.  Each of the individuals further released from liability and waivedany claims against Nevada Security Bank and The Bank Holdings.  Each oftheir spouses, where applicable, consented to the Agreement.  Otheremployees of Nevada Security Bank also entered into identical agreements aswell, thus terminating all Executive Supplemental Compensation Agreements andSplit Dollar Agreements to which the Bank was a party.  A copy of the formof the Agreement was filed as an 8-K on March 17, 2009. It is contemplatedthat this action will reduce risk weighted assets, increase earnings, andreduce a net deferred tax asset during the quarter ended June 30, 2009.

 

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**ITEM 9.****                                      ****CHANGES IN AND DISAGREEMENTS WITHACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**

 

None

 

**ITEM 9A(T).****             ****CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controls and Procedures**

 

The Company’s Chief Executive Officer and its Chief Financial Officer,after evaluating the effectiveness of the Company’s disclosure controls andprocedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) asof the end of the period covered by this report have concluded that, theCompany’s disclosure controls and procedures were adequate and effective toensure that material information relating to the Company and its consolidatedsubsidiary would be made known to them by others within those entities,particularly during the period in which this annual report was being prepared.

 

To assure that financial information is reliable and assets aresafeguarded, management maintains an effective system of internal controls andprocedures, 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.  In establishing internal controls, managementweighs the costs of such systems against the benefits it believes such systemswill provide.

 

It should be noted that in designing and evaluating the disclosurecontrols and procedures, management recognizes that any controls andprocedures, no matter how well designed and operated, can provide onlyreasonable assurance of achieving the desired control objectives, and managementnecessarily was required to apply its judgment in evaluating the cost-benefitrelationship of possible controls and procedures.  The Company has designed its disclosurecontrols and procedures to reach a level of reasonable assurance of achievingdesired control objectives and, based on the evaluation described above, theCompany’s Chief Executive Officer and Chief Financial Officer (PrincipalAccounting Officer) concluded that the Company’s disclosure controls andprocedures were effective at reaching that level of reasonable assurance.

 

Disclosure controls and procedures are designed to ensure thatinformation required to be disclosed by us in the reports that we file orsubmit under the Exchange Act is recorded, processed, summarized and reported,within the time periods specified in the Securities and Exchange Commission’s rules andforms.  Disclosure controls andprocedures include, without limitation, controls and procedures designed toensure that information required to be disclosed by us in the reports that wefile under the Exchange Act is accumulated and communicated to our management,including our Chief Executive Officer and Chief Financial Officer, asappropriate to allow timely decisions regarding required disclosure.

 

**Report on Management's Assessmentof Internal Control Over Financial Reporting**

 

The management of TheBank Holdings and subsidiaries (“the Company”) is responsible for establishingand maintaining adequate internal control over financial reporting for theCompany as defined by Exchange Act Rules 13a — 15 and 15d — 15. The Company’smanagement has used the criteria established in *InternalControl — Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission (“COSO”) to evaluate the effectivenessof the Company’s internal control over financial reporting.  

 

The Company’s managementhas assessed the effectiveness of the Company’s internal control over financialreporting as of December 31, 2008 and has concluded that such internal controlover financial reporting is effective. There are no material weaknesses in theCompany’s internal control over financial reporting that have been identifiedby the Company’s management.

 

This annual report doesnot include an attestation report of the Company’s registered public accountingfirm regarding internal control over financial reporting. Management’s reportwas not subject to attestation by the Company’s registered public accountingfirm pursuant to temporary rules of the Securities and Exchange Commission thatpermit the Company to provide only management’s report in this annual report.

 

**Changes in Internal Controls**

 

There were no substantivechanges in the Company’s internal controls or in other factors that couldsignificantly affect the Company’s internal controls subsequent to the end ofthe period covered by this report.  Whilethe Company believes the present design of its disclosure controls andprocedures are effective to achieve its goal, future events affecting itsbusiness may cause the Company to modify its disclosure controls andprocedures.

 

The Company does notexpect that its disclosure controls and procedures and internal control overfinancial reporting will prevent all error and fraud.  A control procedure, no matter how wellconceived and operated, can provide only reasonable, not absolute, assurancethat the objectives of the control procedure are met.  Because of the inherent limitations in allcontrol procedures, no evaluation of controls can provide absolute assurancethat all control issues and instances of fraud, if any, within the Company havebeen detected.  These inherentlimitations include the realities that judgments in decision-making can befaulty, and that breakdowns in controls or procedures can occur because ofsimple error or mistake.  Additionally,controls can be circumvented by the individual acts of some persons, bycollusion of two or more people, or by management override of the control.  The design of any control procedure is basedin part upon certain assumptions about the likelihood of future events, andthere can be no assurance that any design will succeed in achieving its statedgoals under all potential future conditions; over time, controls becomeinadequate because of changes in conditions, or the degree of compliance withthe policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective controlprocedure, misstatements due to error or fraud may occur and not be detected.

 

**ITEM 9B.****                             ****OTHER INFORMATION**

 

None.

 

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**PART III**

 

**ITEM 10.****                               ****DIRECTORS, EXECUTIVE OFFICERS ANDCORPORATE GOVERANCE**

 

The information required by this item can be found in the Company’sDefinitive Proxy Statement pursuant to Regulation 14A under the SecuritiesExchange Act of 1934 and by this reference is incorporated herein.

 

**ITEM 11.****                               ****EXECUTIVE COMPENSATION**

 

The information required by this item can be found in the Company’sDefinitive Proxy Statement pursuant to Regulation 14A under the SecuritiesExchange Act of 1934 and by this reference is incorporated herein.

 

**ITEM 12.****                               ****SECURITY OWNERSHIP OF CERTAINBENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS**

 

The information in response to Item 201(d) of Regulation S-B canbe found in Item 5 hereof and is incorporated herein by this reference.  The remaining information required by thisitem can be found in the Company’s Definitive Proxy Statement pursuant to Regulation14A under the Securities Exchange Act of 1934 and by this reference isincorporated herein.

 

**ITEM 13.****                               ****CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS AND DIRECTOR INDEPENDENCE**

 

The information required by this item can be found in the Company’s DefinitiveProxy Statement pursuant to Regulation 14A under the Securities Exchange Act of1934 and by this reference is incorporated herein.

 

**ITEM 14.****                               ****PRINCIPAL ACCOUNTANT FEES ANDSERVICES**

 

**Pre-Approval Policy for Services of Independent Auditors**

 

As part of its duties, the Audit Committee is required to pre-approveaudit and non-audit services performed by the independent auditors in order toassure that the provision of such services does not impair the auditors’independence.  On an annual basis, theAudit Committee will review and provide pre-approval for certain types ofservices that may be provided by the independent auditors without obtainingspecific pre-approval from the Audit Committee. If a type of service to be provided by the independent auditors has notreceived pre-approval during this annual process, it will require specificpre-approval by the Audit Committee.  TheAudit Committee does not delegate to management its responsibilities topre-approve services performed by the independent auditors.

 

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**Fees for Services Provided by Independent Auditors**

 

Fees for all services provided by Moss-Adams, LLP the Company’sindependent auditors for fiscal years 2008 and 2007, are as follows:

 

**Audit Fees**

 

**Principal Accountant Fees andServices**

 
| ** **              | ** ** | **For the Years Ended December 31,** | ** ** |
|-------------------------|------------|---------------------------------------------------------------|------------|
| ** **              | ** ** | **2008**                                                      | ** ** | **2007** | ** ** |
| ** **              | ** ** | **(in thousands)**                                       | ** ** |
| Audit Fees (1)          |       | $                                                             | 301        |   | $ | 145 |   |
| Audit Related  Fees (2) |       | 25                                                            |       | 118 |   |
| Tax Fees                |       |                                                          |       |   |   |
| Tax Related Fees        |       |                                                          |       |   |   |
|                         |            |                                                               |            |  |  |  |  |

 

----

| (1)    | Audit fees consist of fees for professional services rendered for the  audit of The Bank Holdings consolidated financial statements for 2008 and  2007. Audit fees for 2008 and 2007 also include fees and costs associated  with SAS 100 reviews associated with Form 10-Q filings. |
|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                                                      |
| (2)    | Audit related fees consist of audit planning costs, out of pocket  costs, SOX reviews, and other audit related matters.                                                                                                                                                                   |

 

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**PART IV**

 

**ITEM 15.****                               ****EXHIBITS**

 

(a)  Exhibits

 

The following documents are included or incorporated by reference inthis Annual Report on Form 10-K:

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                      |
|----------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                                                                                                                                                                 |
| 3.1                  |       | Articles of Incorporation of The Bank Holdings (1)                                                                                                                   |
|                 |       |                                                                                                                                                                 |
| 3.2                  |       | By-laws of The Bank Holdings (1)                                                                                                                                     |
|                 |       |                                                                                                                                                                 |
| 3.3                  |       | First Amendment to the Bylaws of The Bank Holdings (9)                                                                                                               |
|                 |       |                                                                                                                                                                 |
| 4.1                  |       | Share Certificate (3)                                                                                                                                                |
|                 |       |                                                                                                                                                                 |
| 10.1                 |       | 2002 Stock Option Plan (2)                                                                                                                                           |
|                 |       |                                                                                                                                                                 |
| 10.2                 |       | Amendment to the 2002 Stock Option Plan (5)                                                                                                                          |
|                 |       |                                                                                                                                                                 |
| 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 (7)                                                                                                   |
|                 |       |                                                                                                                                                                 |
| 10.6                 |       | Employment Agreement of Harold G. Giomi (8)                                                                                                                          |
|                 |       |                                                                                                                                                                 |
| 10.7                 |       | First Amendment to Employment Agreement of Harold G. Giomi (8)                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.8                 |       | Amended and Restated Employment Agreement of David A. Funk (8)                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.9                 |       | Employment Agreement of Joe P. Bourdeau (8)                                                                                                                          |
|                 |       |                                                                                                                                                                 |
| 10.10                |       | First Amendment to Employment Agreement of Joe P. Bourdeau (8)                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.11                |       | Employment Agreement of Jack B. Buchold (8)                                                                                                                          |
|                 |       |                                                                                                                                                                 |
| 10.12                |       | First Amendment to Employment Agreement of Jack B. Buchold (8)                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.13                |       | Employment Agreement of John N. Donovan (10)                                                                                                                         |
|                 |       |                                                                                                                                                                 |
| 10.14                |       | First Amendment to Employment Agreement of John N. Donovan (8)                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.15                |       | Deferred Compensation Plan (2)                                                                                                                                       |
|                 |       |                                                                                                                                                                 |
| 10.16                |       | Directors Supplemental Insurance Plan Agreement (6)                                                                                                                  |
|                 |       |                                                                                                                                                                 |
| 11                   |       | Statement re: Computation of Per Share Earnings (11)                                                                                                                 |
|                 |       |                                                                                                                                                                 |
| 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 |

 

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| 23.1   |   | Consent of Moss-Adams, LLP (filed herewith)    |
|--------|--------|------------------------------------------------|
|   |   |                                           |
| 31.1   |   | Section 302 Certification by Hal Giomi    |
|   |   |                                           |
| 31.2   |   | Section 302 Certification by Jack Buchold |
|   |   |                                           |
| 32.1   |   | Section 706 Certification by Hal Giomi    |
|   |   |                                           |
| 32.2   |   | Section 706 Certification by Jack Buchold |

 

----

| (1)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference to, our registration Statement on Form S-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 the Commission  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 the Commission on  December 17, 2003.                      |
|   |                                                                                                                                                                                    |
| (4)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference to our Form 10-KSB filed with the Commission  on March 30, 2004.                       |
|   |                                                                                                                                                                                    |
| (5)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  June 14, 2005.                            |
|   |                                                                                                                                                                                    |
| (6)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  September 21, 2005.                       |
|   |                                                                                                                                                                                    |
| (7)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  January 4, 2006.                          |
|   |                                                                                                                                                                                    |
| (8)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  January 7, 2009.                          |
|   |                                                                                                                                                                                    |
| (9)    | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  April 25, 2008.                           |
|   |                                                                                                                                                                                    |
| (10)   | This exhibit was previously filed as part of, and is hereby  incorporated by reference from, Form 8-K filed with the Commission on  June 25, 2007.                            |
|   |                                                                                                                                                                                    |
| (11)   | Computation of earnings per share is incorporated herein by reference  to Note 1 of the Financial Statements.                                                                           |

 

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**FINANCIAL TABLES**

 

**Appendix 1- Average Balances and Rates**

The following table setsforth, for the periods indicated, information regarding (i) the totaldollar amount of interest income on interest-earning assets and the resultantaverage yields; (ii) the total dollar amount of interest expense oninterest-bearing liabilities and the resultant average cost; (iii) netinterest income; (iv) interest rate spread; and (v) net interestmargin.

 
| ** **                                           | ** ** | **For the Year Ended December 31,** | ** ** | **For the Year Ended December 31,** | ** ** | **For the Year Ended December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------------------------|------------|--------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                           | ** ** | **2008(a,b)**                                                | ** ** | **2007(a,b)**                                                | ** ** | **2006(a,b)**                                                | ** ** |
| ** **                                           | ** ** | **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    |       | $                                                            | 8,266      |                                                         | $          | 96                                                           |       | 1.16 | % | $ | 18,164 |   | $ | 806 |   | 4.44 | % | $ | 18,858 |   | $ | 950 |   | 5.04 | % |
| Securities                                           |       | 89,293                                                       |       | 4,625                                                        |       | 5.18                                                         | %          | 85,306 |   | 3,744 |   | 4.39 | % | 91,736 |   | 3,893 |   | 4.24 | % |
| Equity                                               |       | 6,884                                                        |       | 272                                                          |       | 3.95                                                         | %          | 4,823 |   | 172 |   | 3.57 | % | 7,771 |   | 242 |   | 3.11 | % |
| Total Investments                                    |       | 104,443                                                      |       | 4,993                                                        |       | 4.78                                                         | %          | 108,293 |   | 4,722 |   | 4.36 | % | 118,365 |   | 5,085 |   | 4.30 | % |
|                                                 |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans: (c)                                           |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Agriculture                                          |       | 996                                                          |       | 13                                                           |       | 1.31                                                         | %          | 7,304 |   | 416 |   | 5.70 | % | 13,075 |   | 836 |   | 6.39 | % |
| Commercial                                           |       | 80,307                                                       |       | 5,205                                                        |       | 6.48                                                         | %          | 76,511 |   | 6,600 |   | 8.63 | % | 43,912 |   | 3,905 |   | 8.89 | % |
| Real Estate  Construction                            |       | 127,256                                                      |       | 8,248                                                        |       | 6.48                                                         | %          | 167,661 |   | 15,185 |   | 9.06 | % | 120,027 |   | 10,612 |   | 8.84 | % |
| Real Estate Term                                     |       | 241,514                                                      |       | 17,889                                                       |       | 7.41                                                         | %          | 216,944 |   | 17,579 |   | 8.10 | % | 129,439 |   | 10,453 |   | 8.08 | % |
| Consumer                                             |       | 7,683                                                        |       | 429                                                          |       | 5.58                                                         | %          | 9,096 |   | 625 |   | 6.87 | % | 1,757 |   | 130 |   | 7.40 | % |
| Credit Card and  Overdraft Protection                |       | 328                                                          |       | 49                                                           |       | 14.94                                                        | %          | 359 |   | 56 |   | 15.46 | % | 148 |   | 18 |   | 12.16 | % |
| Other                                                |       | 627                                                          |       | —                                                       |       | 0.00                                                         | %          | 586 |   | — |   | 0.00 | % | 53 |   | — |   | 0.00 | % |
| Total Loans                                          |       | 458,711                                                      |       | 31,833                                                       |       | 6.94                                                         | %          | 478,461 |   | 40,461 |   | 8.46 | % | 308,411 |   | 25,954 |   | 8.42 | % |
| Total Earning  Assets                                |       | 563,154                                                      |       | 36,826                                                       |       | 6.54                                                         | %          | 586,754 |   | 45,183 |   | 7.70 | % | 426,776 |   | 31,039 |   | 7.27 | % |
| Non-Earning  Assets                                  |       | 54,517                                                       |       |                                                         |       |                                                         |       | 62,356 |   |   |   |   |   | 25,403 |   |   |   |   |   |
| **Total  Assets**                                    |       | $                                                            | 617,671    |                                                         |       |                                                         |       |   | $ | 649,110 |   |   |   |   |   | $ | 452,179 |   |   |   |   |   |
| **Liabilities  and Shareholders’ Equity**       |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest Bearing  Deposits:                          |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| NOW                                                  |       | $                                                            | 12,178     |                                                         | $          | 82                                                           |       | 0.67 | % | $ | 11,137 |   | $ | 108 |   | 0.97 | % | $ | 7,886 |   | $ | 76 |   | 0.96 | % |
| Savings Accounts                                     |       | 27,675                                                       |       | 559                                                          |       | 2.02                                                         | %          | 73,077 |   | 3,088 |   | 4.23 | % | 80,839 |   | 3,202 |   | 3.96 | % |
| Money Market                                         |       | 85,690                                                       |       | 2,107                                                        |       | 2.46                                                         | %          | 108,968 |   | 4,353 |   | 3.99 | % | 113,130 |   | 4,424 |   | 3.91 | % |
| IRA’s                                           |       | 4,371                                                        |       | 188                                                          |       | 4.30                                                         | %          | 4,292 |   | 201 |   | 4.68 | % | 1,626 |   | 62 |   | 3.81 | % |
| Certificates of  Deposit<$100,000                 |       | 204,551                                                      |       | 8,914                                                        |       | 4.36                                                         | %          | 169,874 |   | 8,423 |   | 4.96 | % | 69,345 |   | 3,285 |   | 4.74 | % |
| Certificates of  Deposit>$100,000                 |       | 67,514                                                       |       | 2,625                                                        |       | 3.89                                                         | %          | 63,922 |   | 2,886 |   | 4.51 | % | 42,554 |   | 1,831 |   | 4.30 | % |
| Total Interest  Bearing Deposits                     |       | 401,979                                                      |       | 14,475                                                       |       | 3.60                                                         | %          | 431,270 |   | 19,059 |   | 4.42 | % | 315,380 |   | 12,880 |   | 4.08 | % |
| Borrowed Funds:                                      |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Short term debt                                      |       | 58,733                                                       |       | 1,702                                                        |       | 2.90                                                         | %          | 35,856 |   | 2,201 |   | 6.14 | % | 24,599 |   | 1,155 |   | 4.70 | % |
| Long term debt                                       |       | 29,889                                                       |       | 1,313                                                        |       | 4.39                                                         | %          | 28,700 |   | 1,704 |   | 5.94 | % | 17,697 |   | 1,048 |   | 0 |   |
| Total Borrowed  Funds                                |       | 88,622                                                       |       | 3,015                                                        |       | 3.40                                                         | %          | 64,556 |   | 3,905 |   | 6.05 | % | 42,296 |   | 2,203 |   | 5.21 | % |
| Total Interest  Bearing Liabilities                  |       | 490,601                                                      |       | 17,490                                                       |       | 3.57                                                         | %          | 495,826 |   | 22,964 |   | 4.63 | % | 357,676 |   | 15,083 |   | 4.22 | % |
| Demand Deposits                                      |       | 57,417                                                       |       |                                                         |       |                                                         |       | 61,077 |   |   |   |   |   | 44,552 |   |   |   |   |   |
| Other Liabilities                                    |       | 6,631                                                        |       |                                                         |       |                                                         |       | 17,511 |   |   |   |   |   | 8,695 |   |   |   |   |   |
| Shareholders’  Equity                           |       | 63,022                                                       |       |                                                         |       |                                                         |       | 74,696 |   |   |   |   |   | 41,256 |   |   |   |   |   |
| **Total  Liabilities and Shareholders’ Equity** |       | $                                                            | 617,671    |                                                         |       |                                                         |       |   | $ | 649,110 |   |   |   |   |   | $ | 452,179 |   |   |   |   |   |
|                                                 |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Interest  Rate Spread (d)**                        |       |                                                         |       |                                                         |       | 2.97                                                         | %          |   |   |   |   | 3.07 | % |   |   |   |   | 3.05 | % |
|                                                 |       |                                                         |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest  Income/Earning Assets                      |       |                                                         |       |                                                         |       | 6.54                                                         | %          |   |   |   |   | 7.70 | % |   |   |   |   | 7.27 | % |
| Interest  Expense/Earning Assets                     |       |                                                         |       |                                                         |       | 3.11                                                         | %          |   |   |   |   | 3.91 | % |   |   |   |   | 3.53 | % |
| **Net  Interest Income and Margin (e)**              |       |                                                         |       | $                                                            | 19,336     |                                                         | 3.43       | % |   |   | $ | 22,219 |   | 3.79 | % |   |   | $ | 15,956 |   | 3.74 | % |

 

----

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

(b) Yields are not reflected on a tax equivalent basis.

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

(d)  Represents thedifference between the yield on interest-earning assets and the cost ofinterest-bearing liabilities.

(e) Net interest margin represents net interest income as a percentage of averageinterest-earning assets.

 

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

The following table presentscertain information regarding changes in our interest income and interestexpense for the periods indicated.

 

For each category ofinterest-earning assets and interest-bearing liabilities, information isprovided with respect to changes attributable to (i) changes in volume(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** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                           | ** ** | **2008 vs. 2007**                                  | ** ** | **2007 vs. 2006**                                  | ** ** |
| ** **                                           | ** ** | **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 |       | $                                                            | (439       | )                                                            | $          | (596 | ) | $ | 325 |   | $ | (710 | ) | $ | (35 | ) | $ | (112 | ) | $ | 3 |   | $ | (144 | ) |
| Securities                                           |       | 175                                                          |       | 674                                                          |       | 32 |   | 881 |   | (273 | ) | 138 |   | (14 | ) | (149 | ) |
| Equity                                               |       | 74                                                           |       | 18                                                           |       | 8 |   | 100 |   | (92 | ) | 36 |   | (14 | ) | (70 | ) |
| Total Investment  Income                             |       | (190                                                         | )          | 96                                                           |       | 365 |   | 271 |   | (400 | ) | 62 |   | (25 | ) | (363 | ) |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans:                                               |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Agriculture                                          |       | (360                                                         | )          | (321                                                         | )          | 278 |   | (403 | ) | (369 | ) | (90 | ) | 39 |   | (420 | ) |
| Commercial                                           |       | 328                                                          |       | (1,645                                                       | )          | (78 | ) | (1,395 | ) | 2,898 |   | (114 | ) | (89 | ) | 2,695 |   |
| Real Estate  Construction                            |       | (3,661                                                       | )          | (4,326                                                       | )          | 1,050 |   | (6,937 | ) | 4,211 |   | 246 |   | 116 |   | 4,573 |   |
| Real Estate Term                                     |       | 1,990                                                        |       | (1,497                                                       | )          | (183 | ) | 310 |   | 7,070 |   | 26 |   | 30 |   | 7,126 |   |
| Consumer                                             |       | (97                                                          | )          | (117                                                         | )          | 18 |   | (196 | ) | 543 |   | (9 | ) | (39 | ) | 495 |   |
| Credit Card and  Overdraft Protection                |       | (5                                                           | )          | (2                                                           | )          | — |   | (7 | ) | 26 |   | 5 |   | 7 |   | 38 |   |
| Total Loan  Income                                   |       | (1,805                                                       | )          | (7,908                                                       | )          | 1,085 |   | (8,628 | ) | 14,379 |   | 64 |   | 64 |   | 14,507 |   |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total  Interest Income**                           |       | (1,995                                                       | )          | (7,812                                                       | )          | 1,450 |   | (8,357 | ) | 13,979 |   | 126 |   | 39 |   | 14,144 |   |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Interest Expense**                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest Bearing  Deposits:                          |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Now Accounts                                         |       | 10                                                           |       | (33                                                          | )          | (3 | ) | (26 | ) | 31 |   | 1 |   | — |   | 32 |   |
| Savings                                              |       | (1,921                                                       | )          | (1,615                                                       | )          | 1,007 |   | (2,529 | ) | (307 | ) | 218 |   | (25 | ) | (114 | ) |
| Money market                                         |       | (929                                                         | )          | (1,667                                                       | )          | 350 |   | (2,246 | ) | (163 | ) | 91 |   | 1 |   | (71 | ) |
| IRA’s                                           |       | 4                                                            |       | (16                                                          | )          | (1 | ) | (13 | ) | 102 |   | 14 |   | 23 |   | 139 |   |
| Certificates of  deposit<$100,000                 |       | 1,720                                                        |       | (1,019                                                       | )          | (210 | ) | 491 |   | 4,765 |   | 153 |   | 220 |   | 5,138 |   |
| Certificates of  deposit>$100,000                 |       | 162                                                          |       | (396                                                         | )          | (27 | ) | (261 | ) | 919 |   | 89 |   | 47 |   | 1,055 |   |
| Total  interest-bearing deposits                     |       | (954                                                         | )          | (4,746                                                       | )          | 1,116 |   | (4,584 | ) | 5,347 |   | 566 |   | 266 |   | 6,179 |   |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Borrowed Funds                                       |       | 1,456                                                        |       | (1,711                                                       | )          | (635 | ) | (890 | ) | 1,180 |   | 358 |   | 164 |   | 1,702 |   |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total  interest expense**                          |       | 502                                                          |       | (6,457                                                       | )          | 481 |   | (5,474 | ) | 6,527 |   | 924 |   | 430 |   | 7,881 |   |
|                                                 |       |                                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Net  Interest Income**                             |       | $                                                            | (2,497     | )                                                            | $          | (1,355 | ) | $ | 969 |   | $ | (2,883 | ) | $ | 7,452 |   | $ | (798 | ) | $ | (391 | ) | $ | 6,263 |   |

 

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(1) Includeschanges in interest income and expense not due solely to volume or ratechanges.

 

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

The following table setsforth the various components of the Company’s non-interest income and expensefor the periods indicated.

 
| ** **                                                          | ** ** | **For the Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                          | ** ** | **2008**                                                     | ** ** | **% of Total** | ** ** | **2007** | ** ** | **% of Total** | ** ** | **2006** | ** ** | **% of Total** | ** ** |
| ** **                                                          | ** ** | **(Dollars in thousands)**                         | ** ** |
| **Other  Operating Income**                                         |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Service charges  on deposit accounts                                |       | $                                                            | 617        |   | -4.03 | % | $ | 436 |   | 30.66 | % | $ | 261 |   | 15.52 | % |
| Other service  charges, commissions and fees                        |       | 45                                                           |       | -0.29 | % | 52 |   | 3.66 | % | 19 |   | 1.13 | % |
| Loan charges and  fees                                              |       | 195                                                          |       | -1.27 | % | 292 |   | 20.53 | % | 162 |   | 9.63 | % |
| Pre-underwriting  fees                                              |       | —                                                       |       | 0.00 | % | 26 |   | 1.83 | % | 9 |   | 0.54 | % |
| Income on bank  owned life insurance                                |       | 360                                                          |       | -2.35 | % | 393 |   | 27.64 | % | 307 |   | 18.25 | % |
| Exchange fee  income                                                |       | 82                                                           |       | -0.54 | % | 163 |   | 11.46 | % | 448 |   | 26.63 | % |
| Unrealized gains  on trading securities                             |       | (997                                                         | )          | 6.51 | % | 118 |   | 8.30 | % | 443 |   | 26.34 | % |
| Unrealized gain  on fair value loans                                |       | 10                                                           |       | -0.07 | % | (77 | ) | -5.41 | % | — |   | 0.00 | % |
| Gain on the sale  of fixed assets                                   |       | (57                                                          | )          | 0.37 | % | 11 |   | 0.77 | % | 2 |   | 0.12 | % |
| Loss on the sale  of OREO                                           |       | (194                                                         | )          | 1.27 | % |   |   |   |   |   |   |   |   |
| Gain on the sale  of fair value loans                               |       | —                                                       |       | 0.00 | % | 5 |   | 0.35 | % | — |   | 0.00 | % |
| Gain/(loss) on  the sale of investments                             |       | (15,374                                                      | )          | 100.40 | % | 3 |   | 0.21 | % | 31 |   | 1.84 | % |
| Total non-interest  income                                          |       | (15,313                                                      | )          | 100.00 | % | 1,422 |   | 100.00 | % | 1,682 |   | 100.00 | % |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| As a percent of  average earning assets                             |       |                                                         |       | -2.72 | % |   |   | 0.24 | % |   |   | 0.29 | % |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| **Other  Operating Expense:**                                       |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Salaries and employee  benefits                                     |       | 9,493                                                        |       | 21.38 | % | 9,566 |   | 52.25 | % | 7,617 |   | 56.08 | % |
| Occupancy costs                                                     |       | 2,739                                                        |       | 6.17 | % | 2,709 |   | 14.80 | % | 1,921 |   | 14.14 | % |
| Advertising and  marketing costs                                    |       | 529                                                          |       | 1.19 | % | 866 |   | 4.73 | % | 527 |   | 3.88 | % |
| Data processing  costs                                              |       | 538                                                          |       | 1.21 | % | 629 |   | 3.44 | % | 960 |   | 7.07 | % |
| Deposit services  costs                                             |       | 1,140                                                        |       | 2.57 | % | 1,100 |   | 6.01 | % | 459 |   | 3.38 | % |
| Loan servicing  costs                                               |       | 580                                                          |       | 1.31 | % | 63 |   | 0.34 | % | 25 |   | 0.18 | % |
| Provision for  undisbursed loan commitments                         |       | (78                                                          | )          | -0.18 | % | (145 | ) | -0.79 | % | 120 |   | 0.88 | % |
| Telephone and  postage costs                                        |       | 467                                                          |       | 1.05 | % | 555 |   | 3.03 | % | 305 |   | 2.25 | % |
| Legal and  accounting                                               |       | 907                                                          |       | 2.04 | % | 880 |   | 4.81 | % | 371 |   | 2.73 | % |
| Other  professional services                                        |       | 452                                                          |       | 1.02 | % | 618 |   | 3.38 | % | 199 |   | 1.46 | % |
| Director fees                                                       |       | 280                                                          |       | 0.63 | % | 352 |   | 1.92 | % | 291 |   | 2.14 | % |
| Travel and  education costs                                         |       | 186                                                          |       | 0.42 | % | 318 |   | 1.73 | % | 281 |   | 2.07 | % |
| Stationery and  supplies                                            |       | 166                                                          |       | 0.37 | % | 275 |   | 1.50 | % | 186 |   | 1.37 | % |
| Goodwill  Impairment                                                |       | 26,911                                                       |       | 60.60 | % |   |   |   |   |   |   |   |   |
| Other                                                               |       | 100                                                          |       | 0.22 | % | 521 |   | 2.85 | % | 320 |   | 2.36 | % |
| Total  non-interest expense                                         |       | $                                                            | 44,410     |   | 100.00 | % | $ | 18,307 |   | 100.00 | % | $ | 13,582 |   | 100.00 | % |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| As a percentage  of average earning assets                          |       |                                                         |       | 7.89 | % |   |   | 3.12 | % |   |   | 2.31 | % |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Net non-interest  expense as a percentage of average earning assets |       |                                                         |       | 10.61 | % |   |   | 2.88 | % |   |   | 2.03 | % |
|                                                                |       |                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Efficiency ratio  (a)                                               |       |                                                         |       | 228.28 | % |   |   | 77.50 | % |   |   | 77.15 | % |

 

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(a)  Represents non-interest expenses as apercentage of net interest income and non-interest income excluding securitiesgains and losses.

 

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**Appendix4 - Securities Available for Sale,  Heldto Maturity and Trading**

The following table setsforth our investment securities as of the dates indicated.

 
| ** **                                                          | ** ** | **December 31,**                | ** ** | **December 31,** | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------------|------------|-----------------------|------------|-----------------------|------------|
| ** **                                                          | ** ** | **2008**                             | ** ** | **2007**              | ** ** | **2006**              | ** ** |
| ** **                                                          | ** ** | **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                       |       | $                                    | —     |                  | $          | —                |       | $ | 6,136 |   | $ | 6,059 |   | $ | 10,347 |   | $ | 10,105 |   |
| Corporate bonds                                                     |       | 1,221                                |       | 1,236                 |       | 4,274                 |       | 3,552 |   | 3,611 |   | 3,599 |   |
| State &  municipal                                         |       | —                               |       | —                |       | —                |       | — |   | 500 |   | 494 |   |
| Equity                                                              |       | 95                                   |       | 95                    |       | —                |       | — |   | — |   | — |   |
| Preferred  Securities                                               |       | 503                                  |       | 435                   |       | 6,998                 |       | 6,890 |   | 404 |   | 408 |   |
| Mortgage-backed  securities                                         |       | —                               |       | —                |       | 1,512                 |       | 1,495 |   | 1,758 |   | 1,731 |   |
| Subtotal,  Available for Sale                                       |       | $                                    | 1,819      |                  | $          | 1,766                 |       | $ | 18,920 |   | $ | 17,996 |   | $ | 16,620 |   | $ | 16,337 |   |
|                                                                |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
| Held to Maturity                                                    |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
|                                                                |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
| US Treasury and  Government Agency Securities                       |       | $                                    | 6,033      |                  | $          | 6,198                 |       | $ | 12,596 |   | $ | 12,704 |   | $ | 25,338 |   | $ | 25,293 |   |
| Mortgage-backed  securities                                         |       | 36,245                               |       | 36,535                |       | 27,490                |       | 27,234 |   | 35,821 |   | 35,016 |   |
| Corporate bonds                                                     |       | 250                                  |       | 240                   |       | 794                   |       | 812 |   | 789 |   | 809 |   |
| State &  municipal                                         |       | 16,227                               |       | 15,255                |       | 21,400                |       | 21,343 |   | 14,642 |   | 14,699 |   |
| Subtotal, Held  to Maturity                                         |       | $                                    | 58,755     |                  | $          | 58,228                |       | $ | 62,280 |   | $ | 62,093 |   | $ | 76,590 |   | $ | 75,817 |   |
|                                                                |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
| Fair value as a %  of amortized cost of Held to Maturity Securities |       |                                 |       | 99.1                  | %          |                  |       | 99.7 | % |   |   | 99.0 | % |
|                                                                |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
| Trading  Securities Equity Investments                              |       | 102                                  |       | 83                    |       | 4,168                 |       | 4,729 |   | 3,648 |   | 4,299 |   |
|                                                                |       |                                 |       |                  |       |                  |       |   |   |   |   |   |   |
| Total Securities                                                    |       | $                                    | 60,676     |                  | $          | 60,077                |       | $ | 85,368 |   | $ | 84,818 |   | $ | 96,858 |   | $ | 96,453 |   |

 

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**Appendix5 - Maturities of Securities**

The following table setsforth the contractual maturities and weighted average yields of our debtsecurities as of December 31, 2008. Actual maturities will differ fromcontractual maturities because borrowers may have the right to call or prepayobligations with 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              |       | $                                             | —     |   | — |   | $ | — |   | — |   | $ | — |   | — |   | $ | — |   | — |   | $ | — |   | — |   |
| Mortgage-backed Securities          |       | —                                        |       | — |   | — |   | — |   | $ | — |   | — |   | — |   | — |   | — |   | — |   |
| State & Municipal          |       | —                                        |       | — |   | — |   | — |   | — |   | — |   | — |   | — |   | — |   | — |   |
| Preferred Securities                |       | —                                        |       | — |   | — |   | — |   | — |   | — |   | 435 |   | 7.95 | % | 435 |   | 7.95 | % |
| Corporate Bonds                     |       | —                                        |       | — |   | — |   | — |   | — |   | — |   | 1,331 |   | 3.97 | % | 1,331 |   | 3.97 | % |
| Total Available for Sale Securities |       | $                                             | —     |   |   |   | $ | — |   |   |   | $ | — |   |   |   | $ | 1,766 |   |   |   | $ | 1,766 |   | 4.95 | % |
|                                |       |                                          |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Held to Maturity Securities         |       |                                          |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                                |       |                                          |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| US Government Agencies              |       | $                                             | 5,010      |   | 5.21 | % | $ | 1,023 |   | 4.93 | % | $ | — |   | — |   | $ | — |   | — |   | $ | 6,033 |   | 5.16 | % |
| Mortgage-backed Securities          |       | 352                                           |       | 3.92 | % | 5,025 |   | 4.15 | % | 5,206 |   | 4.60 | % | 25,662 |   | 5.17 | % | 36,245 |   | 4.94 | % |
| State & Municipal          |       | —                                        |       | — |   | — |   | — |   | 538 |   | 6.12 | % | 15,689 |   | 6.37 | % | 16,227 |   | 6.36 | % |
| Corporate Bonds                     |       | 250                                           |       | 6.46 | % | — |   | — |   | — |   | — |   | — |   | — |   | 250 |   | 6.46 | % |
| Total Held to Maturity Securities   |       | $                                             | 5,612      |   |   |   | $ | 6,048 |   |   |   | $ | 5,744 |   |   |   | $ | 41,351 |   |   |   | $ | 58,755 |   | 5.35 | % |
|                                |       |                                          |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total Investment Securities         |       | $                                             | 5,612      |   |   |   | $ | 6,048 |   |   |   | $ | 5,744 |   |   |   | $ | 43,117 |   |   |   | $ | 60,521 |   | 5.18 | % |

 

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**Appendix 6 - Composition of Loan Portfolio**

Thefollowing table sets forth the composition of our loan portfolio at the datesindicated.

 
| ** **                            | ** ** | **As of   December 31,   2008** | ** ** | **As of   December 31,   2007** | ** ** | **As of   December 31,   2006** | ** ** | **As of   December 31,   2005** | ** ** | **As of   December 31,   2004** | ** ** |
|---------------------------------------|------------|-----------------------------------------------------|------------|-----------------------------------------------------|------------|-----------------------------------------------------|------------|-----------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                            | ** ** | ** **                                          | ** ** | **% of**                                       | ** ** | ** **                                          | ** ** | **% of**                                       | ** ** | ** **                                          | ** ** | **% of** | ** ** | ** ** | ** ** | **% of** | ** ** | ** ** | ** ** | **% of** | ** ** |
| ** **                            | ** ** | **Amount**                                          | ** ** | **Loans**                                           | ** ** | **Amount**                                          | ** ** | **Loans**                                           | ** ** | **Amount**                                          | ** ** | **Loans** | ** ** | **Amount** | ** ** | **Loans** | ** ** | **Amount** | ** ** | **Loans** | ** ** |
| ** **                            | ** ** | **(Dollars in thousands)**                | ** ** |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| USDA Agriculture Loans (1)            |       | $                                                   | 858        |                                                | 0.19       | %                                                   | $          | 897                                                 |       | 0.19                                                | %          | $ | 12,698 |   | 2.74 | % | $ | 13,528 |   | 5.52 | % | $ | 16,763 |   | 10.43 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Commercial and Industrial             |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Revolving Lines of Credit             |       | 42,999                                              |       | 9.75                                                | %          | 48,283                                              |       | 10.17                                               | %          | 38,271                                              |       | 8.25 | % | 18,066 |   | 7.37 | % | 5,171 |   | 3.22 | % |
| Other Collateral                      |       | 36,263                                              |       | 8.22                                                | %          | 35,624                                              |       | 7.50                                                | %          | 21,212                                              |       | 4.57 | % | 16,694 |   | 6.81 | % | 14,130 |   | 8.79 | % |
| Unsecured                             |       | 7,580                                               |       | 1.72                                                | %          | 13,029                                              |       | 2.74                                                | %          | 16,885                                              |       | 3.64 | % | 3,669 |   | 1.50 | % | 5,671 |   | 3.53 | % |
| Participations                        |       | (8,479                                              | )          | -1.92                                               | %          | (9,500                                              | )          | -2.00                                               | %          | (2,000                                              | )          | -0.43 | % | — |   | 0.00 | % | — |   | 0.00 | % |
| Total Commercial Loans                |       | 78,363                                              |       | 17.76                                               | %          | 87,436                                              |       | 18.42                                               | %          | 74,368                                              |       | 16.03 | % | 38,429 |   | 15.67 | % | 24,972 |   | 15.54 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Real Estate Construction:             |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Acquisition and Land                  |       | 61,409                                              |       | 13.92                                               | %          | 63,252                                              |       | 13.32                                               | %          | 50,826                                              |       | 10.96 | % | 32,137 |   | 13.11 | % | 9,170 |   | 5.71 | % |
| Single Family Residences              |       | 14,262                                              |       | 3.23                                                | %          | 26,866                                              |       | 5.66                                                | %          | 63,255                                              |       | 13.64 | % | 26,615 |   | 10.86 | % | 14,704 |   | 9.15 | % |
| Multi-family                          |       | 2,127                                               |       | 0.48                                                | %          | 4,599                                               |       | 0.97                                                | %          | —                                              |       | 0.00 | % | — |   | 0.00 | % | — |   | 0.00 | % |
| Commercial                            |       | 34,671                                              |       | 7.86                                                | %          | 52,479                                              |       | 11.05                                               | %          | 49,099                                              |       | 10.58 | % | 19,664 |   | 8.02 | % | 9,534 |   | 5.93 | % |
| Government Guaranteed                 |       | 1,658                                               |       | 0.38                                                | %          | 6,017                                               |       | 1.27                                                | %          | 3,001                                               |       | 0.65 | % | 1,026 |   | 0.42 | % | — |   | 0.00 | % |
| Participations                        |       | (9,290                                              | )          | -2.11                                               | %          | (7,371                                              | )          | -1.55                                               | %          | (12,419                                             | )          | -2.68 | % | (5,253 | ) | -2.14 | % | — |   | 0.00 | % |
| Total Real Estate Construction Loans  |       | 104,837                                             |       | 23.76                                               | %          | 145,842                                             |       | 30.72                                               | %          | 153,761                                             |       | 33.15 | % | 74,189 |   | 30.26 | % | 33,408 |   | 20.79 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Real Estate Term:                     |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Single Family Residences              |       | 5,405                                               |       | 1.23                                                | %          | 3,503                                               |       | 0.74                                                | %          | 878                                                 |       | 0.19 | % | 5,284 |   | 2.16 | % | 4,779 |   | 2.97 | % |
| Multi-family                          |       | 13,920                                              |       | 3.15                                                | %          | 6,935                                               |       | 1.46                                                | %          | 6,729                                               |       | 1.45 | % | 6,848 |   | 2.79 | % | — |   | 0.00 | % |
| Commercial                            |       | 241,414                                             |       | 54.71                                               | %          | 232,946                                             |       | 49.07                                               | %          | 217,465                                             |       | 46.88 | % | 97,732 |   | 39.86 | % | 65,246 |   | 40.60 | % |
| Government Guaranteed                 |       | 767                                                 |       | 0.17                                                | %          | 1,863                                               |       | 0.39                                                | %          | 915                                                 |       | 0.20 | % | 196 |   | 0.08 | % | 3,409 |   | 2.12 | % |
| Participations                        |       | (12,673                                             | )          | -2.87                                               | %          | (12,917                                             | )          | -2.72                                               | %          | (10,936                                             | )          | -2.36 | % | — |   | 0.00 | % | (1,089 | ) | -0.68 | % |
| Total Real Estate Term Loans          |       | 248,833                                             |       | 56.40                                               | %          | 232,330                                             |       | 48.94                                               | %          | 215,052                                             |       | 46.36 | % | 110,060 |   | 44.89 | % | 72,345 |   | 45.02 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Total Real Estate Loans               |       | 353,670                                             |       | 80.16                                               | %          | 378,172                                             |       | 79.65                                               | %          | 368,813                                             |       | 79.51 | % | 184,249 |   | 75.15 | % | 105,753 |   | 65.80 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Consumer Loans:                       |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Consumer                              |       | 1,757                                               |       | 0.40                                                | %          | 2,251                                               |       | 0.47                                                | %          | 1,848                                               |       | 0.40 | % | 3,408 |   | 1.39 | % | 6,391 |   | 3.98 | % |
| Home Equity Lines of Credit           |       | 6,107                                               |       | 1.38                                                | %          | 5,710                                               |       | 1.20                                                | %          | 5,710                                               |       | 1.23 | % | 5,417 |   | 2.21 | % | 6,757 |   | 4.20 | % |
| Credit Cards and Overdraft Protection |       | 338                                                 |       | 0.08                                                | %          | 259                                                 |       | 0.05                                                | %          | 364                                                 |       | 0.08 | % | 93 |   | 0.04 | % | 72 |   | 0.04 | % |
| Other                                 |       | 128                                                 |       | 0.03                                                | %          | 44                                                  |       | 0.01                                                | %          | 57                                                  |       | 0.01 | % | 61 |   | 0.02 | % | 1 |   | 0.00 | % |
| Total Consumer Loans                  |       | 8,330                                               |       | 1.89                                                | %          | 8,264                                               |       | 1.74                                                | %          | 7,979                                               |       | 1.72 | % | 8,979 |   | 3.66 | % | 13,220 |   | 8.23 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Total Gross Loans                     |       | 441,221                                             |       | 100.00                                              | %          | 474,769                                             |       | 100.00                                              | %          | 463,858                                             |       | 100.00 | % | 245,185 |   | 100.00 | % | 160,708 |   | 100.00 | % |
|                                  |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Less:                                 |       |                                                |       |                                                |       |                                                |       |                                                |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Allowance for Loan Losses             |       | 8,061                                               |       |                                                |       | 7,276                                               |       |                                                |       | 5,430                                               |       |   |   | 2,655 |   |   |   | 1,586 |   |   |   |
| Net Unearned Loan Fees/Costs          |       | 934                                                 |       |                                                |       | 1,255                                               |       |                                                |       | 997                                                 |       |   |   | 356 |   |   |   | 597 |   |   |   |
| Net Loans                             |       | $                                                   | 432,226    |                                                |       |                                                | $          | 466,238                                             |       |                                                |       | $ | 457,431 |   |   |   | $ | 242,174 |   |   |   | $ | 158,525 |   |   |   |

 

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(1) Company adopted FAS159 on January 1, 2007, amount outstanding represents fair value

 

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**Appendix 7- Scheduled Contractual Maturities of the LoanPortfolio**

The following table sets forth the scheduledcontractual amortization of our loan portfolio at December 31, 2008 aswell as the amount of loans which are scheduled to mature after one year whichhave fixed or adjustable interest rates.

 
| ** **                                          | ** ** | **USDA Agriculture** | ** ** | **Commerical** | ** ** | **Real Estate** | ** ** | **Consumer** | ** ** | **Total** | ** ** |
|-----------------------------------------------------|------------|---------------------------|------------|----------------|------------|----------------------|------------|--------------|------------|-----------|------------|
|                                                |       |                      |       |           |       |                 |       |         |       |      |       |
| Amounts due:                                        |       |                      |       |           |       |                 |       |         |       |      |       |
| Within one year                                     |       | $                         | —     |           | $          | 47,251               |       | $            | 93,814     |      | $          | 1,042 |   | $ | 142,107 |   |
| After one year  through five years                  |       | —                    |       | 14,770         |       | 59,834               |       | 1,758        |       | $         | 76,362     |   |
| Beyond five  years                                  |       | 858                       |       | 16,342         |       | 200,022              |       | 5,530        |       | $         | 222,752    |   |
|                                                |       |                      |       |           |       |                 |       |         |       |      |       |
| Total                                               |       | $                         | 858        |           | $          | 78,363               |       | $            | 353,670    |      | $          | 8,330 |   | $ | 441,221 |   |
|                                                |       |                      |       |           |       |                 |       |         |       |      |       |
| Interest Rate  Terms on amounts due after one year: |       |                      |       |           |       |                 |       |         |       |      |       |
|                                                |       |                      |       |           |       |                 |       |         |       |      |       |
| Fixed                                               |       | $                         | —     |           | $          | 10,108               |       | $            | 27,271     |      | $          | 331 |   | $ | 37,710 |   |
| Adjustable                                          |       | $                         | 858        |           | $          | 21,004               |       | $            | 232,585    |      | $          | 6,957 |   | $ | 261,404 |   |

 

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**Appendix8 - Table of Activity in the Allowance for Loan Losses**

The following table setsforth information concerning the activity in our allowance for loan lossesduring the periods indicated.

 
| ** **                                                          | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                          | ** ** | **2008**                                   | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                          | ** ** | **(Dollars in thousands)**       | ** ** |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| **Allowance  at the beginning of the period**                       |       | $                                          | 7,276      |   | $ | 5,430 |   | $ | 2,655 |   | $ | 1,586 |   | $ | 822 |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Allowance  contributed by Northern Nevada Bank                      |       | —                                     |       | — |   | 1,951 |   | — |   | — |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| **Charge-offs:**                                                    |       |                                       |       |   |   |   |   |   |   |   |   |
| Agricultural                                                        |       | —                                     |       | — |   | — |   | — |   | — |   |
| Commercial &  industrial loans                             |       | 173                                        |       | 225 |   | — |   | — |   | — |   |
| Real estate  construction loans                                     |       | 2,390                                      |       | 903 |   | — |   | — |   | — |   |
| Real estate  loans                                                  |       | 728                                        |       | — |   | — |   | — |   | — |   |
| Consumer loans                                                      |       | 2                                          |       | 65 |   | — |   | — |   | — |   |
| Total Loans  Charged-Off                                            |       | 3,293                                      |       | 1,193 |   | — |   | — |   | — |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| **Recoveries:**                                                     |       |                                       |       |   |   |   |   |   |   |   |   |
| Agricultural                                                        |       | —                                     |       | — |   | — |   | — |   | — |   |
| Commercial &  industrial loans                             |       | 36                                         |       | 32 |   | 53 |   | — |   | — |   |
| Real estate  construction loans                                     |       | —                                     |       | — |   | — |   | — |   | — |   |
| Real estate  loans                                                  |       | —                                     |       | — |   | — |   | — |   | — |   |
| Consumer loans                                                      |       | 17                                         |       | — |   | — |   | — |   | — |   |
| Total Loans  Recovered                                              |       | 53                                         |       | 32 |   | 53 |   | — |   | — |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Net loan charge  offs                                               |       | (3,240                                     | )          | (1,161 | ) | 53 |   | — |   | — |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Provision  charged to expense                                       |       | 4,025                                      |       | 3,007 |   | 771 |   | 1,069 |   | 764 |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Balance                                                             |       | $                                          | 8,061      |   | $ | 7,276 |   | $ | 5,430 |   | $ | 2,655 |   | $ | 1,586 |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Average gross  loans outstanding during period                      |       | $                                          | 458,711    |   | $ | 478,461 |   | $ | 478,461 |   | $ | 308,411 |   | $ | 122,454 |   |
| Gross loans  outstanding at end of period                           |       | $                                          | 441,221    |   | $ | 474,769 |   | 474,769 |   | $ | 463,858 |   | $ | 160,708 |   |
|                                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| **RATIOS**                                                          |       |                                       |       |   |   |   |   |   |   |   |   |
| Net Charge-offs  to Average Loans (annualized)                      |       | -0.71                                      | %          | $ | (0 | ) | n/a |   | n/a |   | n/a |   |
| Allowance for  Loan Losses to Gross Loans at End of Period          |       | 1.83                                       | %          | 1.53 | % | 1.14 | % | 0.57 | % | 0.99 | % |
| Net Loan  Charge-offs to Allowance for Loan Losses at End of Period |       | -40.19                                     | %          | $ | (0 | ) | n/a |   | n/a |   | n/a |   |
| Net Loan  Charge-offs to Provision for Loan Losses                  |       | -80.50                                     | %          | $ | (0 | ) | n/a |   | n/a |   | n/a |   |

 

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**Appendix 9- Allocation of the Allowance for Loan Losses**

The following table setsforth information concerning the allocation of our allowance for loan losses byloan categories at the dates indicated. The allowance for loan losses isavailable for offsetting credit losses in connection with any loan, but isinternally allocated to various loan categories as part of our process forevaluating the adequacy of the allowance for loan losses. 

 
| ** **                              | ** ** | **As of December 31,** | ** ** | **As of December 31,** | ** ** | **As of December 31,** | ** ** | **As of December 31,** | ** ** | **As of December 31,** | ** ** |
|-----------------------------------------|------------|---------------------------------------|------------|---------------------------------------|------------|---------------------------------------|------------|---------------------------------------|------------|---------------------------------------|------------|
| ** **                              | ** ** | **2008**                              | ** ** | **2007**                              | ** ** | **2006**                              | ** ** | **2005**                              | ** ** | **2004**                              | ** ** |
| ** **                              | ** ** | ** **                            | ** ** | **% Total**                      | ** ** | ** **                            | ** ** | **% Total**                      | ** ** | ** **                            | ** ** | **% Total** | ** ** | ** ** | ** ** | **% Total** | ** ** | ** ** | ** ** | **% Total** | ** ** |
| ** **                              | ** ** | **Amount**                            | ** ** | **Loans(1)**                          | ** ** | **Amount**                            | ** ** | **Loans(1)**                          | ** ** | **Amount**                            | ** ** | **Loans(1)** | ** ** | **Amount** | ** ** | **Loans(1)** | ** ** | **Amount** | ** ** | **Loans(1)** | ** ** |
| ** **                              | ** ** | **(Dollars in thousands)**  | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** **                            | ** ** |
| ** **                              | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| USDA Agriculture  Loans                 |       | $                                     | —     |                                  | 0.19       | %                                     | $          | —                                |       | 0.19                                  | %          | $ | — |   | 2.74 | % | $ | — |   | 2.74 | % | $ | — |   | 5.52 | % |
|                                    |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Commercial and Industrial               |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Revolving Lines  of Credit              |       | 1,103                                 |       |                                  |       | 614                                   |       |                                  |       | 427                                   |       |   |   | 407 |   |   |   | 178 |   |   |   |
| Unseucred and  Other Collateral         |       | 778                                   |       |                                  |       | 539                                   |       |                                  |       | 444                                   |       |   |   | 102 |   |   |   | 88 |   |   |   |
| Total Commercial  Loans                 |       | 1,881                                 |       | 17.76                                 | %          | 1,153                                 |       | 18.42                                 | %          | 871                                   |       | 16.03 | % | 509 |   | 16.03 | % | 266 |   | 15.67 | % |
|                                    |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Real Estate  Construction:              |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Acquisition and  Land                   |       | 1,514                                 |       |                                  |       | 1,603                                 |       |                                  |       | 1,711                                 |       |   |   | 361 |   |   |   | 98 |   |   |   |
| SFR, Commerical,  Multi-family          |       | 751                                   |       |                                  |       | 1,729                                 |       |                                  |       | 1,379                                 |       |   |   | 663 |   |   |   | 293 |   |   |   |
| Government  Guaranteed                  |       | 77                                    |       |                                  |       | 158                                   |       |                                  |       | 259                                   |       |   |   | 17 |   |   |   | 6 |   |   |   |
| Total Real Estate  Construction Loans   |       | 2,342                                 |       | 23.76                                 | %          | 3,490                                 |       | 30.72                                 | %          | 3,349                                 |       | 33.15 | % | 1,041 |   | 33.15 | % | 397 |   | 30.26 | % |
|                                    |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Real Estate Term:                       |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Single Family  Residences, Multi-family |       | 752                                   |       |                                  |       | 590                                   |       |                                  |       | 193                                   |       |   |   | 174 |   |   |   | 79 |   |   |   |
| Commercial                              |       | 1,239                                 |       |                                  |       | 1,987                                 |       |                                  |       | 1,003                                 |       |   |   | 897 |   |   |   | 649 |   |   |   |
| Total Real Estate  Term Loans           |       | 1,991                                 |       | 56.40                                 | %          | 2,577                                 |       | 48.94                                 | %          | 1,196                                 |       | 46.36 | % | 1,071 |   | 46.36 | % | 728 |   | 44.89 | % |
|                                    |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Total Real Estate                       |       | 4,333                                 |       | 80.16                                 | %          | 6,067                                 |       | 79.65                                 | %          | 4,545                                 |       | 79.51 | % | 2,112 |   | 79.51 | % | 1,125 |   | 75.15 | % |
|                                    |       |                                  |       |                                  |       |                                  |       |                                  |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Consumer loans                          |       | 47                                    |       | 1.89                                  | %          | 56                                    |       | 1.74                                  | %          | 13                                    |       | 1.72 | % | 28 |   | 1.72 | % | 191 |   | 3.66 | % |
| Unallocated                             |       | 1,800                                 |       | 0.00                                  | %          | —                                |       | 0.00                                  | %          | 1                                     |       | 0.00 | % | 6 |   | 0.00 | % | 4 |   | 0.00 | % |
|                                    |       | $                                     | 8,061      |                                  | 100.00     | %                                     | $          | 7,276                                 |       | 100.00                                | %          | $ | 5,430 |   | 100.00 | % | $ | 2,655 |   | 100.00 | % | $ | 1,586 |   | 100.00 | % |

 

----

| (1) Represents  percentage of loans in category to total loans. |
|----------------------------------------------------------------------|

 

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**Appendix 10- Premises and Equipment**

The following table sets forth the cost and net bookvalue of our fixed assets as of the dates indicated.

 
| ** **                         | ** ** | **As of December 31,** | ** ** |
|------------------------------------|------------|---------------------------------------|------------|
| ** **                         | ** ** | **2008**                              | ** ** | **2007** | ** ** |
| ** **                         | ** ** | ** **                            | ** ** | **Accumulated** | ** ** | **Net Book** | ** ** | ** ** | ** ** | **Accumulated** | ** ** | **Net Book** | ** ** |
| ** **                         | ** ** | **Cost**                              | ** ** | **Depreciation** | ** ** | **Value** | ** ** | **Cost** | ** ** | **Depreciation** | ** ** | **Value** | ** ** |
|                               |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Land                               |       | $                                     | 3,108      |   | $ | — |   | $ | 3,108 |   | $ | 2,308 |   | $ | — |   | $ | 2,308 |   |
| Buildings                          |       | 1,989                                 |       | 393 |   | 1,596 |   | 1,989 |   | 322 |   | 1,667 |   |
| Leasehold  Improvements            |       | 1,875                                 |       | 995 |   | 880 |   | 1,897 |   | 801 |   | 1,096 |   |
| Furniture,  Fixtures and Equipment |       | 5,650                                 |       | 3,838 |   | 1,812 |   | 5,736 |   | 3,295 |   | 2,441 |   |
|                               |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| **Total**                          |       | $                                     | 12,622     |   | $ | 5,226 |   | $ | 7,396 |   | $ | 11,930 |   | $ | 4,418 |   | $ | 7,512 |   |

 

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

At December 31, 2008, the scheduled maturities oftime deposits including IRA’s (in thousands) are as follows:

 
| ** **           | ** ** | **100K**           | ** ** | **Over** | ** ** | ** ** | ** ** |
|----------------------|------------|--------------------|------------|----------|------------|------------|------------|
| ** **           | ** ** | **and Under** | ** ** | **100K** | ** ** | **Total**  | ** ** |
| During the Year  of: |       |               |       |     |       |       |       |
| 2009                 |       | $                  | 185,833    |     | $          | 74,924     |       | $ | 260,757 |   |
| 2010                 |       | 56,958             |       | 7,521    |       | 64,479     |       |
| 2011                 |       | 214                |       | 409      |       | 623        |       |
| 2012                 |       | 46                 |       | —   |       | 46         |       |
| 2013                 |       | 46                 |       | 226      |       | 272        |       |
| **Total**            |       | $                  | 243,097    |     | $          | 83,080     |       | $ | 326,177 |   |

 

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**Appendix 12- Other Borrowed Funds**

The following table sets forth the FHLB advances andother borrowing

 
| ** **                                   | ** ** | **As of December 31,** | ** ** |
|----------------------------------------------|------------|---------------------------------------|------------|
| ** **                                   | ** ** | **2008**                              | ** ** | **2007** | ** ** | **2006 *+** | ** ** |
| ** **                                   | ** ** | **(dollars in thousands)**  | ** ** |
|                                         |       |                                  |       |   |   |   |   |
| **Overnight  FHLB Advances**                 |       |                                  |       |   |   |   |   |
|                                         |       |                                  |       |   |   |   |   |
| Balance at  December 31,                |       | $                                     | —     |   | $ | 62,500 |   | $ | 31,000 |   |
| Average amount  outstanding                  |       | 70,627                                |       | 35,963 |   | 24,599 |   |
| Maximum amount  outstanding at any month end |       | 103,000                               |       | 69,000 |   | 54,000 |   |
| Average interest  rate for the year          |       | 2.02                                  | %          | 5.02 | % | 4.30 | % |
|                                         |       |                                  |       |   |   |   |   |
| **Term  FHLB Advances**                      |       |                                  |       |   |   |   |   |
|                                         |       |                                  |       |   |   |   |   |
| Balance at  December 31,                |       | $                                     | 27,000     |   | $ | 8,000 |   | $ | 8,000 | ***** |
| Average amount  outstanding for the period   |       | 9,514                                 |       | 8,000 |   | 8,205 |   |
| Maximum amount  outstanding at any month end |       | 27,000                                |       | 8,000 |   | 8,500 |   |
| Average interest  rate for the short period  |       | 4.54                                  | %          | 4.41 | % | 4.09 | % |
|                                         |       |                                  |       |   |   |   |   |
| **Federal  Funds Purchased**                 |       |                                  |       |   |   |   |   |
|                                         |       |                                  |       |   |   |   |   |
| Balance at  December 31,                |       | $                                     | —     |   | $ | 110 |   | $ | — |   |
| Maximum amount  outstanding at any month end |       | —                                |       | 110 |   | — |   |
| Average interest  rate for the year          |       | 3.62                                  | %          | 0 |   | — |   |
|                                         |       |                                  |       |   |   |   |   |
| **Subordinated  Debt**                       |       |                                  |       |   |   |   |   |
|                                         |       |                                  |       |   |   |   |   |
| Balance at  December 31,                |       | $                                     | 20,619     |   | $ | 20,619 |   | $ | 20,619 | **+** |
| Average amount  outstanding                  |       | 20,619                                |       | 20,619 |   | 16,255 |   |
| Maximum amount  outstanding at any month end |       | 20,619                                |       | 20,619 |   | 20,619 |   |
| Average interest  rate for the year          |       | 4.91                                  | %          | 6.54 | % | 6.34 | % |
|                                         |       |                                  |       |   |   |   |   |
| **Notes  Payable**                           |       |                                  |       |   |   |   |   |
|                                         |       |                                  |       |   |   |   |   |
| Balance at  December 31,                |       | $                                     | —     |   | $ | — |   | $ | 530 |   |
| Average amount  outstanding                  |       | —                                |       | 124 |   | 429 |   |
| Maximum amount  outstanding at any month end |       | —                                |       | 265 |   | 717 |   |
| Average interest  rate for the year          |       | 0.00                                  | %          | 7.96 | % | 8.16 | % |

 

----

| * Acquired in merger on 11/06/06              |
|-----------------------------------------------|
| + $5.2 million acquired in merger on 11/06/06 |

 

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**Appendix13- Estimated Net Interest Income Sensitivity Profile**

The following table setsforth the estimated effects on the Bank’s net interest income over a 12 monthperiod following December 31, 2008 in the event of an immediate change up ordown in the indicated market interest rates.

 
| ** **                           | ** ** | **Change in**    | ** ** | ** **     | ** ** |
|--------------------------------------|------------|-----------------------|------------|----------------|------------|
| ** **                           | ** ** | **Net Interest** | ** ** | **Percentage** | ** ** |
| **(Dollars in thousands)** | ** ** | **Income**            | ** ** | **Change**     | ** ** |
| Scenario                             |       |                  |       |           |       |
|                                 |       |                  |       |           |       |
| Up 200 basis  points                 |       | $                     | (1,092     | )              | - 0.20     | % |
| Up 100 basis  points                 |       | $                     | (499       | )              | - 0.09     | % |
| Down 100 basis  points               |       | $                     | 203        |           | 0.04       | % |
| Down 200 basis  points               |       | $                     | (74        | )              | - 0.01     | % |

 

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**Appendix 14 - Interest Rate Sensitivity Gap**

The following table sets forth the Company’s interestrate sensitivity as of December 31, 2008. Interest rate sensitivity difference between the volumes of assets andliabilities 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:**                                           |       |       |       |               |       |                |       |                |       |       |       |
| Interest bearing  cash and due from banks                               |       | $          | 22,037     |               | $          | —              |       | $                   | 99         |       | $          | — |   | $ | 22,136 |   |
| Federal funds  sold and short term investments                          |       | 972        |       | —             |       | —              |       | —              |       | 972        |       |
| Investment  securities                                                  |       | 2,499      |       | 10,337             |       | 15,601              |       | 32,084              |       | 60,521     |       |
| Loans                                                                   |       | 172,353    |       | 53,514             |       | 199,051             |       | 15,369              |       | 440,287    |       |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| **Total**                                                               |       | $          | 197,861    |               | $          | 63,851              |       | $                   | 214,751    |       | $          | 47,453 |   | $ | 523,916 |   |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| **Interest  Bearing Liabilities:**                                      |       |       |       |               |       |                |       |                |       |       |       |
| Interest bearing  demand deposits                                       |       | $          | 10,775     |               | $          | —              |       | $                   | —     |       | $          | — |   | $ | 10,775 |   |
| Savings deposits                                                        |       | 15,453     |       | —             |       | —              |       | —              |       | 15,453     |       |
| MMDA’s                                                             |       | 61,499     |       | —             |       | —              |       | —              |       | 61,499     |       |
| Time deposits  $100,000 or less                                         |       | 61,978     |       | 123,996            |       | 57,118              |       | 5                   |       | 243,097    |       |
| Time deposits of  more than $100,000                                    |       | 22,832     |       | 52,326             |       | 7,922               |       | —              |       | 83,080     |       |
| Borrowed funds                                                          |       | —     |       | 22,000             |       | 5,000               |       | 20,619              |       | 47,619     |       |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| **Total**                                                               |       | $          | 172,537    |               | $          | 198,322             |       | $                   | 70,040     |       | $          | 20,624 |   | $ | 461,523 |   |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| Interest Rate  Sensitivity Gap                                          |       | $          | 25,324     |               | $          | (134,471            | )          | $                   | 144,711    |       | $          | 26,829 |   | $ | 62,393 |   |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| Cumulative  Interest Rate Sensitivity Gap                               |       | $          | 25,324     |               | $          | (109,147            | )          | $                   | 35,564     |       | $          | 62,393 |   |   |   |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| Cumulative  Interest Rate Sensitivity Gap/Total Interest Earning Assets |       | 4.48       | %          | -19.31             | %          | 6.29                | %          | 11.04               | %          |       |       |
|                                                                    |       |       |       |               |       |                |       |                |       |       |       |
| Cumulative Gap  as a % of Total Assets                                  |       | 4.04       | %          | -17.40             | %          | 5.67                | %          | 9.95                | %          |       |       |

 

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**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,  2008**             |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 56,248     |            | 11.63      | %                                     | $          | 38,694                            |       | 8.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 50,450     |            | 10.58      | %                                     | $          | 38,140                            |       | 8.00 | % | $ | 47,676 |   | 10.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 50,269     |            | 10.39      | %                                     | $          | 19,347                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 44,471     |            | 9.33       | %                                     | $          | 19,070                            |       | 4.00 | % | 28,605 |   | 6.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 50,269     |            | 8.89       | %                                     | $          | 22,621                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 44,471     |            | 7.94       | %                                     | $          | 22,413                            |       | 4.00 | % | $ | 28,016 |   | 5.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| **December 31,  2007**             |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 69,453     |            | 12.77      | %                                     | $          | 43,496                            |       | 8.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 57,071     |            | 10.97      | %                                     | $          | 41,632                            |       | 8.00 | % | $ | 52,040 |   | 10.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 62,936     |            | 11.58      | %                                     | $          | 32,622                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 50,554     |            | 9.71       | %                                     | $          | 20,816                            |       | 4.00 | % | 31,224 |   | 6.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 62,936     |            | 10.39      | %                                     | $          | 24,219                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 50,554     |            | 8.60       | %                                     | $          | 23,513                            |       | 4.00 | % | $ | 29,392 |   | 5.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| **December 31,  2006**             |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 67,001     |            | 12.98      | %                                     | $          | 41,527                            |       | 8.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 53,084     |            | 10.74      | %                                     | $          | 39,545                            |       | 8.00 | % | $ | 49,431 |   | 10.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 51,431     |            | 9.97       | %                                     | $          | 20,763                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 47,310     |            | 9.57       | %                                     | $          | 17,372                            |       | 4.00 | % | 29,659 |   | 6.00 | % |
|                                    |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                                  |       |                              |       |   |   |   |   |
| The Bank  Holdings                      |       | $          | 51,431     |            | 9.85       | %                                     | $          | 22,221                            |       | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 47,310     |            | 8.04       | %                                     | $          | 19,973                            |       | 4.00 | % | $ | 26,240 |   | 5.00 | % |

 

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**SIGNATURES**

 

Pursuant to the requirements of Section 13or 1516(d) of the Securities and Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
| Dated: March 31, 2009 | **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) |

 

Pursuant to therequirements of the Securities and Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant and in thecapacities and on the dates indicated.

 
| **Signature**         | ** ** | **Title**                            | ** ** | **Date**            |
|-----------------------|------------|--------------------------------------|------------|---------------------|
|                  |       |                                 |       |                |
| /s/ *Edward Allison*  |       | Director                             |       | March 31, 2009 |
| Edward Allison        |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Robert Barone*   |       | Director                             |       | March 31, 2009 |
| Robert Barone         |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Marybel Batjer*  |       | Director                             |       | March 31, 2009 |
| Marybel Batjer        |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Joseph Bourdeau* |       | President and Director               |       | March 31, 2009 |
| Joseph Bourdeau       |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Keith Capurro*   |       | Director                             |       | March 31, 2009 |
| Keith Capurro         |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Edward Coppin*   |       | Director                             |       | March 31, 2009 |
| Edward Coppin         |       |                                 |       |                |
|                  |       |                                 |       |                |
| */s/ David A. Funk*   |       | Director                             |       | March 31, 2009 |
| David A. Funk         |       |                                 |       |                |
|                  |       |                                 |       |                |
| */s/ Jesse Haw*       |       | Director                             |       | March 31, 2009 |
| Jesse Haw             |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Kelvin Moss*     |       | Director                             |       | March 31, 2009 |
| Kelvin Moss           |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *James Pfrommer*  |       | Director                             |       | March 31, 2009 |
| James Pfrommer        |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Hal Giomi*       |       | Chairman and Chief Executive Officer |       | March 31, 2009 |
| Hal Giomi             |       |                                 |       |                |
|                  |       |                                 |       |                |
| /s/ *Jack B. Buchold* |       | Chief Financial Officer              |       | March 31, 2009 |
| Jack B. Buchold       |       |                                 |       |                |

 

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