UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C.  20549




FORM
10-Q




(Mark
      One)ý
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2008o
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934 FOR THE TRANSITION PERIOD FROM
                                    
      TO




COMMISSION FILE
NUMBER:000-51949




VALLEY
COMMERCE BANCORP


(Name of
small business issuer as specified in its charter)




California
            46-1981399(State
      or other jurisdiction of incorporation or organization)
            (I.R.S.
      Employer Identification No.)200
      South Court Street
              Visalia,
      California  93291(Address
      of principal executive offices)(559)
      622-9000
              (Issuer’s
      telephone number)




Indicated
by check mark whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.


Yes 
ý  
No  o





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.





Large
      Accelerated Filer
             ̈
            Accelerated
      Filer
             ̈Non-Accelerated
      Filer
             ̈
            Smaller
      Reporting Company
            ý





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).


Yes  o   No  ý





The
number of shares outstanding of the issuer’s Common Stock was 2,475,441 as of
November 12, 2008.









1




INDEX




PART I - FINANCIAL INFORMATION
            3ITEM 1 - FINANCIAL STATEMENTS
            4ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
      CONDITION AND RESULTS OF OPERATONS
            15ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK
            29ITEM 4 – CONTROLS AND PROCEDURES
            29PART II - OTHER INFORMATION
            30ITEM 1 LEGAL PROCEEDINGS
            30ITEM 1A  RISK FACTORS
            30ITEM 2 UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS
            30ITEM 3 DEFAULTS UPON SENIOR SECURITIES
            30ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY
      HOLDERS
            31ITEM 5 OTHER INFORMATION
            31ITEM 6 EXHIBITS
            31SIGNATURES
            32EXHIBIT INDEX
            33







2
 Index







PART I




Forward-Looking
Information




Certain
matters discussed in this Quarterly Report on Form 10-Q including, but not
limited to, those described in Item 2 - Management’s Discussion and Analysis of
Financial Condition and Results of Operations,, are forward-looking statements
that are subject to risks and uncertainties that could cause actual results to
differ materially from those projected in the forward-looking statements. 
Such risks and uncertainties include, among others: (1) significant increases in
competitive pressure in the banking and financial services industries; (2)
changes in the interest rate environment, which could reduce anticipated or
actual margins; (3) changes in the regulatory environment; (4) general economic
conditions, either nationally or regionally and especially in the Company’s
primary service area, becoming less favorable than expected and resulting in,
among other things, a deterioration in credit quality; (5) operational risks,
including data processing systems failures or fraud; (6) changes in business
conditions and inflation; (7) changes in technology; (8) changes in monetary and
tax policies; and (9) changes in the securities markets, (10) civil disturbances
or terrorist threats or acts, or apprehension about the possible future
occurrences or acts of this type; (11) outbreak or escalation of hostilities in
which the United States is involved, any declaration of war by the U.S. Congress
or any other national or international calamity, crisis or emergency; (12)
changes in laws and regulations; (13) recently issued accounting pronouncements;
(14) government policies, regulations and their enforcement including Bank
Secrecy Act – related matters, taxing statutes and regulations; (15)
restrictions on dividends that our subsidiaries are allowed to pay to us; (16)
the ability to satisfy requirements related to the Sarbanes-Oxley Act and other
regulation on internal control; and (17) management’s ability to manage these
and other risks.  Therefore, the information set forth in such
forward-looking statements should be carefully considered when evaluating the
business prospects of the Company.





When
the Company uses in this Quarterly Report on Form 10-Q the words “anticipate,”
“estimate,” “expect,” “project,” “intend,” “commit,” “believe” and similar
expressions, the Company intends to identify forward-looking statements. 
Such statements are not guarantees of performance and are subject to certain
risks, uncertainties and assumptions, including those described in this
Quarterly Report on Form 10-Q.  Should one or more of these risks or
uncertainties materialize, or should underlying assumptions prove incorrect,
actual results may vary materially from those anticipated, estimated, expected,
projected, intended, committed or believed.  The future results and
shareholder values of the Company may differ materially from those expressed in
these forward-looking statements.  Many of the factors that will determine
these results and values are beyond the Company’s ability to control or
predict.  The Company undertakes no obligation to revise or publicly
release the results of any revision to these forward-looking
statements.  For those statements, the Company claims the protection
of the safe harbor for forward-looking statements contained in the Private
Securities Litigation Reform Act of 1995.


3
 Index


PART
1 – FINANCIAL INFORMATION


ITEM
1 – FINANCIAL STATEMENTS





VALLEY
COMMERCE BANCORP


CONDENSED
CONSOLIDATED BALANCE SHEET


(UNAUDITED)







September
      30,
              2008
            
            
            December
      31,
              2007AssetsCash
      and due from banks
            
            $
            8,123,564
            
            
            $
            9,297,346Federal
      funds sold
            
            
            15,150,000
            
            
            
            -Total
      cash and cash equivalents
            
            
            23,273,564
            
            
            
            9,297,346Available-for-sale
      investment securities, at fair value
            
            
            41,960,000
            
            
            
            56,615,000Loans,
      less allowance for loan losses of $2,841,058 at September 30, 2008 and
      $1,757,591 at December 31, 2007 (Note 3)
            
            
            224,946,922
            
            
            
            199,514,271Bank
      premises and equipment, net
            
            
            4,075,339
            
            
            
            3,037,063Cash
      surrender value of bank-owned life insurance
            
            
            6,374,564
            
            
            
            6,184,531Accrued
      interest receivable and other assets
            
            
            5,395,655
            
            
            
            4,432,665Total
      assets
            
            $
            306,026,044
            
            
            $
            279,080,876Liabilities and
      Shareholders’ EquityDeposits:Noninterest-bearing
            
            $
            65,897,907
            
            
            $
            66,992,568Interest-bearing
            
            
            192,594,697
            
            
            
            148,393,500Total
      deposits
            
            
            258,492,604
            
            
            
            215,386,068Accrued
      interest payable and other liabilities
            
            
            2,058,334
            
            
            
            1,778,548Short-term
      debt
            
            
            8,000,000
            
            
            
            21,804,000Long-term
      debt
            
            
            5,488,248
            
            
            
            8,146,049Junior
      subordinated deferrable interest debentures
            
            
            3,093,000
            
            
            
            3,093,000Total
      liabilities
            
            
            277,132,186
            
            
            
            250,207,665Commitments
      and contingencies (Note 4)Shareholders’
      equity (Note 5 and 9):Serial
      preferred stock - no par value; 10,000,000 shares authorized, none
      issuedCommon
      stock - no par value; 30,000,000 shares authorized; issued and outstanding
      2,460,667 shares at September 30, 2008 and 2,516,257 shares at December
      31, 2007
            
            
            24,434,218
            
            
            
            23,511,066Retained
      earnings
            
            
            5,077,137
            
            
            
            5,423,324Accumulated
      other comprehensive loss, net of taxes (Note 7)
            
            
            (617,497
            )
            
            
            (61,179
            )Total
      shareholders’ equity
            
            
            28,893,858
            
            
            
            28,873,211Total
      liabilities and shareholders’ equity
            
            $
            306,026,044
            
            
            $
            279,080,876




See
      notes to unaudited condensed consolidated financial
      statements.


4
 Index


VALLEY
COMMERCE BANCORP


CONDENSED
CONSOLIDATED STATEMENT OF INCOME


(UNAUDITED)







For
      the Three Months
            
            
            For
      the Nine MonthsEnded
      September 30,
            
            
            Ended
      September 30,2008
            
            
            2007
            
            
            2008
            
            
            2007Interest
      Income:Interest
      and fees on loans
            
            $
            3,906,358
            
            
            $
            4,164,148
            
            
            $
            11,650,825
            
            
            $
            12,071,084Interest
      on investment securities:Taxable
            
            
            295,626
            
            
            
            358,814
            
            
            
            1,012,564
            
            
            
            1,141,512Exempt
      from Federal income taxes
            
            
            202,673
            
            
            
            192,494
            
            
            
            596,206
            
            
            
            573,734Interest
      on Federal funds sold
            
            
            98,944
            
            
            
            834
            
            
            
            147,044
            
            
            
            2,835Total
      interest income
            
            
            4,503,601
            
            
            
            4,716,290
            
            
            
            13,406,639
            
            
            
            13,789,165Interest
      Expense:Interest
      on deposits
            
            
            1,318,806
            
            
            
            1,534,709
            
            
            
            3,701,771
            
            
            
            4,484,395Interest
      on short-term debt
            
            
            51,958
            
            
            
            131,308
            
            
            
            245,684
            
            
            
            484,758Interest
      on long-term debt
            
            
            70,506
            
            
            
            90,652
            
            
            
            234,393
            
            
            
            272,432Interest
      on junior subordinated deferrable interest debentures
            
            
            48,096
            
            
            
            68,450
            
            
            
            155,718
            
            
            
            203,097Total
      interest expense
            
            
            1,489,366
            
            
            
            1,825,119
            
            
            
            4,337,566
            
            
            
            5,444,682Net
      interest income before provision for loan losses
            
            
            3,014,235
            
            
            
            2,891,171
            
            
            
            9,069,073
            
            
            
            8,344,483Provision
      for loan losses
            
            
            400,000
            
            
            
            -
            
            
            
            1,200,000
            
            
            
            -Net
      interest income after provision for loan losses
            
            
            2,614,235
            
            
            
            2,891,171
            
            
            
            7,869,073
            
            
            
            8,344,483Non-Interest
      Income:Service
      charges
            
            
            192,352
            
            
            
            156,207
            
            
            
            528,046
            
            
            
            431,773Gain
      (loss) on sale of available-for-sale investment securities,
      net
            
            
            -
            
            
            
            -
            
            
            
            46,412
            
            
            
            (1,145
            )Mortgage
      loan brokerage fees
            
            
            8,674
            
            
            
            19,213
            
            
            
            42,475
            
            
            
            66,543Earnings
      on cash surrender value of life insurance policies
            
            
            68,408
            
            
            
            66,564
            
            
            
            201,027
            
            
            
            194,691Other
            
            
            42,255
            
            
            
            57,862
            
            
            
            174,442
            
            
            
            181,154Total
      non-interest income
            
            
            311,689
            
            
            
            299,846
            
            
            
            992,402
            
            
            
            873,016Non-Interest
      Expense:Salaries
      and employee benefits
            
            
            1,265,201
            
            
            
            1,147,489
            
            
            
            3,821,499
            
            
            
            3,563,025Occupancy
      and equipment
            
            
            334,931
            
            
            
            260,942
            
            
            
            934,215
            
            
            
            756,218Other
            
            
            645,578
            
            
            
            740,994
            
            
            
            2,080,154
            
            
            
            2,055,402Total
      non-interest expense
            
            
            2,245,710
            
            
            
            2,149,425
            
            
            
            6,835,868
            
            
            
            6,374,645Income
      before provision for income taxes
            
            
            680,214
            
            
            
            1,041,592
            
            
            
            2,025,607
            
            
            
            2,842,854Provision
      for income taxes
            
            
            202,000
            
            
            
            320,000
            
            
            
            594,000
            
            
            
            857,000Net
      income
            
            $
            478,214
            
            
            $
            721,592
            
            
            $
            1,431,607
            
            
            $
            1,985,854Basic
      earnings per share (Notes 2 and 6)
            
            $
            0.19
            
            
            $
            0.29
            
            
            $
            0.58
            
            
            $
            0.81Diluted
      earnings per share (Notes 2 and 6)
            
            $
            0.19
            
            
            $
            0.28
            
            
            $
            0.57
            
            
            $
            0.77




See
      notes to unaudited condensed consolidated financial
      statements.


5
 Index


VALLEY
COMMERCE BANCORP


CONDENSED
CONSOLIDATED STATEMENT OF CASH FLOWS


(UNAUDITED)





For
      the Nine MonthsEnded
      September 30,2008
            
            
            2007Cash
      Flows from Operating Activities:Net
      income
            
            $
            1,431,607
            
            
            $
            1,985,854Adjustments
      to reconcile net income to net cash provided by operating
      activities:Provision
      for loan losses
            
            
            1,200,000
            
            
            
            -Increase
      (decrease) in deferred loan origination fees, net
            
            
            69,943
            
            
            
            (43,423
            )Depreciation
            
            
            339,685
            
            
            
            220,049Amortization
      of intangibles
            
            
            7,718
            
            
            
            46,903(Gain)
      loss on sale of available-for-sale investment securities,
    net
            
            
            (46,412
            )
            
            
            1,145Dividends
      on Federal Home Loan Bank stock
            
            
            (69,100
            )
            
            
            (62,500
            )(Accretion
      of discounts) amortization of premiums on investment securities,
      net
            
            
            (19,501
            )
            
            
            102,629Increase
      in cash surrender value of bank-owned life insurance
            
            
            (190,033
            )
            
            
            (189,911
            )Stock-based
      compensation expense
            
            
            45,836
            
            
            
            23,013Deferred
      tax benefit from exercise of stock options
            
            
            -
            
            
            
            335,894Loss
      on disposition of premises and equipment
            
            
            685
            
            
            
            1,255Deferred
      tax benefit
            
            
            -
            
            
            
            30,541Decrease
      in accrued interest receivable and other assets
            
            
            (919,419
            )
            
            
            (239,125
            )Increase
      in accrued interest payable and other liabilities
            
            
            177,670
            
            
            
            207,764Net cash provided by operating
    activities
            
            
            2,028,679
            
            
            
            2,420,088Cash
      Flows from Investing Activities:Proceeds
      from matured and called available-for-sale investment
      securities
            
            
            9,500,000
            
            
            
            5,115,000Proceeds
      from sales of available-for-sale investment securities
            
            
            4,546,412
            
            
            
            1,510,000Purchases
      of available-for-sale investment securities
            
            
            (2,958,048
            )
            
            
            (8,152,270
            )Proceeds
      from principal repayments from available-for-sale
              mortgage-backed
      securities
            
            
            2,673,412
            
            
            
            1,730,897Redemption
      of Federal Home Loan Bank Stock, net
            
            
            425,900
            
            
            
            335,600Net
      increase in loans
            
            
            (26,702,594
            )
            
            
            (15,747,241
            )Purchase
      of premises and equipment
            
            
            (1,380,896
            )
            
            
            (994,886
            )Proceeds
      from sale of equipment
            
            
            2,250
            
            
            
            9,313Net
      cash used in investing activities
            
            
            (13,893,564
            )
            
            
            (16,193,587
            )Continued
      on next page.


6
 Index


VALLEY
COMMERCE BANCORP


CONDENSED
CONSOLIDATED STATEMENT OF CASH FLOWS


(UNAUDITED)


(Continued)





For
      the Nine MonthsEnded
      September 30,2008
            
            
            2007Cash
      Flows from Financing Activities:Net
      increase in noninterest-bearing and interest-bearing
    deposits
            
            $
            2,835,440
            
            
            $
            6,427,150Net
      increase (decrease) in time deposits
            
            
            40,271,096
            
            
            
            (3,598,582
            )Proceeds
      from exercised stock options
            
            
            3,975
            
            
            
            556,336Cash
      paid to repurchase common stock
            
            
            (804,118
            )
            
            
            -(Payments
      on) proceeds from short-term borrowings, net
            
            
            (13,804,000
            )
            
            
            7,240,300Payments
      on long-term debt
            
            
            (2,657,801
            )
            
            
            (350,264
            )Cash paid to repurchase fractional shares
            
            
            (3,489
            )
            
            
            (5,392
            )Net
      cash provided by financing activities
            
            
            25,841,103
            
            
            
            10,269,548Increase
      (decrease) in cash and cash equivalents
            
            
            13,976,218
            
            
            
            (3,503,951
            )Cash
      and Cash Equivalents at Beginning of Year
            
            
            9,297,346
            
            
            
            13,265,547Cash
      and Cash Equivalents at End of Period
            
            $
            23,273,564
            
            
            $
            9,761,596Supplemental
      Disclosure of Cash Flow Information:Cash
      paid during the period for:Interest
      expense
            
            $
            4,333,367
            
            
            $
            5,324,309Income
      taxes
            
            $
            1,435,000
            
            
            $
            740,000Non-Cash
      Investing Activities:Net
      change in unrealized loss on available-for-sale securities
            
            $
            (958,137
            )
            
            $
            (9,705
            )Non-cash
      Financing Activities:Cumulative
      effect of adopting EITF 06-04
            
            $
            102,115See
      notes to unaudited condensed consolidated financial
      statements.




7
 Index


VALLEY
COMMERCE BANCORP


NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





1.            GENERAL





On
February 2, 2002, Valley Commerce Bancorp (the "Company") was incorporated as a
bank holding company for the purpose of acquiring Valley Business Bank (the
"Bank") in a bank holding company reorganization.  The new corporate
structure provided the Company and the Bank greater flexibility to expand and
diversify.  The reorganization was completed on November 21, 2002,
subsequent to which the Bank continued its operations as previously conducted,
but as a wholly owned subsidiary of the Company.





The Bank
commenced operations in 1996 and operates branches in Visalia, Fresno, Woodlake
and Tipton, and a loan production office in Tulare.  The Bank's
deposits are insured by the Federal Deposit Insurance Corporation (FDIC) up to
applicable legal limits.  The Bank's primary source of revenue is
generated from providing loans to customers who are predominately small and
middle market businesses and individuals residing in the surrounding
areas.





2.            BASIS
OF PRESENTATION





The
interim unaudited condensed consolidated financial statements of Valley Commerce
Bancorp and subsidiary have been prepared pursuant to the rules and regulations
of the Securities and Exchange Commission (the “SEC”). These interim condensed
consolidated financial statements include the accounts of Valley Commerce
Bancorp and its wholly owned subsidiary Valley Business Bank (the “Bank”)
(collectively, the “Company”). Valley Commerce Trust I, a wholly-owned
subsidiary formed for the exclusive purpose of issuing trust preferred
securities, is not consolidated into the Company's consolidated financial
statements and, accordingly, is accounted for under the equity
method.  The Company’s investment in the Trust is included in accrued
interest receivable and other assets on the consolidated balance
sheet.  All significant intercompany accounts and transactions have
been eliminated in consolidation.  All adjustments (consisting only of
normal recurring adjustments) which, in the opinion of Management, are necessary
for a fair presentation of Valley Commerce Bancorp’s (the “Company”)
consolidated financial position at September 30, 2008 and December 31, 2007, the
results of its operations for the three- and nine-month periods ended September
30, 2008 and 2007, and its cash flows for the nine-month periods ended September
30, 2008 and 2007 have been included therein.  Certain information and
footnote disclosures normally included in the annual consolidated financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been omitted, however, the Company believes
that the disclosures made are adequate to make the information not
misleading.  These interim condensed consolidated financial statements
should be read in conjunction with the consolidated financial statements and
notes thereto included in the Company’s 2007 Annual Report on Form 10-K. 
The results of operations and cash flows for the interim periods presented are
not necessarily indicative of the results for a full year.





The
preparation of these condensed consolidated financial statements in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions. These estimates and
assumptions affect the reported amounts of assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.





Management
has determined that because all of the commercial banking products and services
offered by the Company are available in each branch of the Bank, all branches
are located within the same economic environment and management does not
allocate resources based on the performance of different lending or transaction
activities, it is appropriate to aggregate the Bank branches and report them as
a single operating segment.  No single customer accounts for more than
10% of the revenues of the Company or the Bank.





On May
20, 2008 the Company declared a 5% stock dividend payable on June 25, 2008 for
all shareholders of record on June 11, 2008.  All earnings per share
and per share amounts have been retroactively adjusted to reflect the stock
dividend.








8
 Index


3.           LOANS





Outstanding
loans are summarized below, in thousands:


September
      30,
              2008
            
            
            December
      31,
              2007Commercial
            
            $
            58,260,762
            
            
            $
            41,823,876Real
      estate – mortgage
            
            
            126,124,251
            
            
            
            106,872,707Real
      estate – construction
            
            
            37,444,465
            
            
            
            44,896,223Agricultural
            
            
            4,330,981
            
            
            
            4,987,839Consumer
            
            
            2,001,244
            
            
            
            2,994,997228,161,703
            
            
            
            201,575,642Deferred
      loan fees,  net
            
            
            (373,723
            )
            
            
            (303,780
            )Allowance
      for loan losses
            
            
            (2,841,058
            )
            
            
            (1,757,591
            )$
            224,946,922
            
            
            $
            199,514,271





4.
            COMMITMENTS
      AND CONTINGENCIES





The
Company is party to claims and legal proceeding arising in the ordinary course
of business.  In the opinion of the Company’s management, the amount
of ultimate liability with respect to such proceedings will not have a material
adverse effect on the financial condition or result of operations of the Company
taken as a whole.





In the
normal course of business, the Company has various outstanding commitments to
extend credit which are not reflected in the financial statements, including
loan commitments of $48.1 million and $53.5 million and letters of credit of
$0.3 million and $0.2 million at September 30, 2008 and December 31, 2007,
respectively.





At
September 30, 2008, consumer loan commitments, which are generally unsecured,
represent approximately 5% of total commitments.  Agricultural loan
commitments represent approximately 4% of total commitments and are generally
secured by crops and/or real estate.  Commercial loan commitments
represent approximately 67% of total commitments and are generally secured by
various assets of the borrower.  Real estate loan commitments
represent the remaining 24% of total commitments.  In addition, the
majority of the Bank’s commitments have variable interest
rates.  Total commitments do not necessarily represent future cash
requirements.  Each loan commitment and the amount and type of
collateral obtained, if any, are evaluated on an individual
basis.  Collateral held varies, but may include real property, bank
deposits, debt or equity securities or business assets.





Stand-by
letters of credit are conditional commitments written to guarantee the
performance of a customer to a third party.  These guarantees are
primarily related to the purchases of inventory by commercial customers and are
typically short-term in nature.  Credit risk is similar to that
involved in extending loan commitments to customers and, accordingly, evaluation
and collateral requirements similar to those for loan commitments are
used.  The deferred liability related to the Company’s stand-by
letters of credit was not significant at September 30, 2008 or December 31,
2007.








5.           STOCK
BASED COMPENSATION





On May
15, 2007, the Company’s shareholders approved the Valley Commerce Bancorp 2007
Equity Incentive Plan (“Incentive Plan”).  The Incentive Plan provides
for awards of stock options, restricted stock awards, qualified
performance-based awards and stock grants.  Under the plan, 91,461
shares of common stock are reserved for issuance to employees and directors
under incentive and nonstatutory agreements.  The purpose of the
Incentive Plan is to promote the long-term success of the Company and the
creation of shareholder value.  The Board of Directors believes that
the availability of stock options and other forms of stock awards will be a key
factor in the ability of the Company to attract and retain qualified
individuals.  Additional information on the Incentive Plan may be
obtained from the Company’s 2008 Annual Proxy Statement.


9
 Index


The prior
plan, the Valley Commerce Bancorp Amended and Restated 1997 Stock Option Plan
("Prior Plan") was established in 1997 and expired on February 17,
2007.  There were 36,750 options outstanding at September 30, 2008
granted under the Incentive Plan.





During
the nine-month periods ended September 30, 2008 and 2007, no options were
granted by the Company to its officers or directors.  Compensation
cost related to stock options recognized in operating results under SFAS No.
123R were $14,678 and $7,671 in the three month periods ended September 30, 2008
and 2007, respectively.  Compensation cost related to stock options
recognized in operating results under SFAS No. 123R were $45,836 and $23,013 in
the nine-month periods ended September 30, 2008 and 2007,
respectively.  Compensation expense is recognized over the vesting
period on a straight line accounting basis.





SFAS
123(R) requires the cash flows resulting from the tax benefits resulting from
tax deductions in excess of the compensation cost recognized for those options
(excess tax benefits) to be classified as a cash flow from financing in the
statement of cash flows.   The excess tax benefits for the three
months ended September 30, 2008 and 2007 were $1,579 and $2,153,
respectively.  The excess tax benefits for the nine months ended
September 30, 2008 and 2007 were $5,270 and $6,459, respectively.





The
following table summarizes information about stock option activity for the nine
months ended September 30, 2008:




For
      the Nine Months Ended September 30, 2008Shares
                
                
                Weighted
      Average
                  Exercise
      Price
                
                Weighted
                  Average
                  Remaining
                  Contractual
                  Term
                
                Aggregate
      IntrinsicValue
      (in
      thousands)Incentive:Options
      outstanding at January 1, 2008
                
                
                75,455
                
                
                $
                8.20Options
      granted
                
                
                -
                
                
                
                -Options
      exercised
                
                
                (362
                )
                
                
                10.97Options
      cancelled
                
                
                (3,768
                )
                
                
                13.71Options
      outstanding, September 30, 2008
                
                
                71,326
                
                
                
                10.88
                
                6.70
      years
                
                $
                163,626
                (1)Options
      exercisable, September 30, 2008
                
                
                32,721
                
                
                
                7.59
                
                4.54
      years
                
                
                196,427
                (1)Options
      vested or expected to vest
                  after
      September 30, 2008
                
                
                60,689
                
                
                
                10.88
                
                6.70
      years
                
                
                155,877
                (1)Nonstatutory:Options
      outstanding at January 1, 2008
                
                
                109,181
                
                
                $
                8.67Options
      granted
                
                
                -Options
      exercised
                
                
                -Options
      cancelled
                
                
                -Options
      outstanding, September 30, 2008
                
                
                109,181
                
                
                
                8.67
                
                4.63
      years
                
                $
                568,516
                (1)Options
      exercisable, September 30, 2008
                
                
                104,771
                
                
                
                8.29
                
                4.63
      years
                
                
                568,516
                (1)Options
      vested or expected to vest
                  after
      September 30, 2008
                
                
                102,575
                
                
                
                8.67
                
                4.78
      years
                
                
                490,284
                (1)





(1)
Excluded from the aggregate intrinsic values in the table above are 36,750
incentive options with a weighted average price of $13.81 and 11,025
non-statutory options with a weighted average price of $17.69 because the option
exercise price was greater than quoted price of the Company’s common stock at
September 30, 2008.





The
aggregate intrinsic value is calculated as the difference between the exercise
price of the underlying awards and the quoted price of the Company’s common
stock for options that were in-the-money at September 30, 2008.  There
were 362 and 102,478 options exercised during the nine months ended September
30, 2008 and 2007, respectively.  The total intrinsic value, which is
the amount by which the stock price exceeded the exercise price of the options
on the date of exercise, of options exercised during the nine months ended
September 30, 2008 and 2007 was $1,100 and $864,016,


10
 Index


respectively.  During
the nine months ended September 30, 2008 and 2007, the amount of cash received
from the exercise of stock options was $3,975 and $556,336,
respectively.  There were no options that vested during the three
months ended September 30, 2008 and 2007.  The total fair value of
shares vested during the nine months ended September 30, 2008 and 2007 was
$124,251 and $163,117, respectively.





Management
estimates expected forfeitures and recognizes compensation costs only for those
equity awards expected to vest.  As of September 30, 2008, there was
$209,000 of total unrecognized compensation cost related to non-vested
share-based compensation arrangements granted under the Plan.  The
cost is expected to be realized over a weighted average period of 1.93 years and
will be adjusted for subsequent changes in estimated forfeitures.





6.           EARNINGS
PER SHARE COMPUTATION




Basic
earnings per share are computed by dividing net income by the weighted average
common shares outstanding for the period.  Diluted earnings per share
reflect the potential dilution that could occur if outstanding stock options
were exercised.  Diluted earnings per share are computed by dividing
net income by the weighted average common shares outstanding for the period plus
the dilutive effect of options.  Earnings per share computations have
been retroactively adjusted for stock splits and stock dividends for all periods
presented.  On May 20, 2008 the Company declared a 5% stock dividend
payable on June 25, 2008 for all shareholders of record on June 11,
2008.  All earnings per share and per share amounts have been
retroactively adjusted to reflect the stock dividend.








For
      the Three Months
            
            
            For
      the Nine MonthsEnded
      September 30,
            
            
            Ended
      September 30,2008
            
            
            2007
            
            
            2008
            
            
            2007Earnings
      Per Share:Basic
      earnings per share
            
            $
            0.19
            
            
            $
            0.29
            
            
            $
            0.58
            
            
            $
            0.81Diluted
      earnings per share
            
            $
            0.19
            
            
            $
            0.28
            
            
            $
            0.57
            
            
            $
            0.77Weighted
      Average Number of Shares Outstanding:Basic
      shares
            
            
            2,460,667
            
            
            
            2,482,278
            
            
            
            2,470,959
            
            
            
            2,456,711Diluted
      shares
            
            
            2,501,471
            
            
            
            2,561,270
            
            
            
            2,521,742
            
            
            
            2,590,110


There
were 47,775 and 47,633 options excluded from the computation of diluted earnings
per share for the three and nine months ended September 30, 2008, respectively
as they were identified as anti-dilutive.  There were no options
excluded for the 2007 period.





7.
            COMPREHENSIVE
      INCOME


Comprehensive
      income includes net income and other comprehensive income. The
      Company's only source of other comprehensive income is derived from
      unrealized gains and losses on investment securities available for
      sale. The Company's comprehensive income was as
    follows:




For
      the Three Months
            
            
            For
      the Nine MonthsEnded
      September 30
            
            
            Ended
      September 30(In
      thousands)
            
            2008
            
            
            2007
            
            
            2008
            
            
            2007Net
      income
            
            $
            478
            
            
            $
            722
            
            
            $
            1,432
            
            
            $
            1,986Other
      comprehensive income (loss):Unrealized
      holding loss on available-for-saleinvestment
      securities, net of tax
            
            
            (364
            )
            
            
            384
            
            
            
            (557
            )
            
            
            (20
            )Total
      other comprehensive income
            
            $
            114
            
            
            $
            1,106
            
            
            $
            875
            
            
            $
            1,966




11
 Index


8.            INCOME
TAXES





The
Company files its income taxes on a consolidated basis with its
subsidiaries.  The allocation of income tax expense represents each
entity's proportionate share of the consolidated provision for income
taxes.





Deferred
tax assets and liabilities are recognized for the tax consequences of temporary
differences between the reported amounts of assets and liabilities and their tax
bases.  Deferred tax assets and liabilities are adjusted for the
effects of changes in tax laws and rates on the date of enactment.  On
the condensed consolidated balance sheet, net deferred tax assets are included
in accrued interest receivable and other assets.





When tax
returns are filed, it is highly certain that some positions taken would be
sustained upon examination by the taxing authorities, while others are subject
to uncertainty about the merits of the position taken or the amount of the
position that would be ultimately sustained.  The benefit of a tax
position is recognized in the financial statements in the period during which,
based on all available evidence, management believes it is more likely than not
that the position will be sustained upon examination, including the resolution
of appeals or litigation processes, if any. Tax positions that meet the
more-likely-than-not recognition threshold are measured as the largest amount of
tax benefit that is more than 50 percent likely of being realized upon
settlement with the applicable taxing authority. The portion of the benefits
associated with tax positions taken that exceeds the amount measured as
described above is reflected as a liability for unrecognized tax benefits in the
accompanying condensed consolidated balance sheet along with any associated
interest and penalties that would be payable to the taxing authorities upon
examination. The Company recognizes accrued interest and penalties, if any,
related to unrecognized tax benefits as a component of tax expense in the
condensed consolidated statements of income. There have been no significant
changes to unrecognized tax benefits or accrued interest and penalties for the
nine months ended September 30, 2008.





9.            STOCK
REPURCHASE




In 2007,
the Board of Directors approved a plan to incrementally repurchase up to an
aggregate of $3,000,000 of the Company’s common stock.  The program
commenced in November of 2007 and was extended by the Board of Directors in
November 2008, to continue for an additional period of twelve months, subject to
earlier termination at the Company’s discretion.  The number, price
and timing of the repurchase shall be at the Company’s sole discretion and the
plan may be re-evaluated depending on market conditions, liquidity needs or
other factors.  The Board, based on such re-evaluations, may suspend,
terminate, modify or cancel the plan at any time without
notice.  During the nine months ended September 30, 2008, the Company
repurchased 53,032 shares for a total cost of $804,118 or an average price of
$15.16 per share.  Since the plan adoption the Company has repurchased
80,472 shares for a total cost of $1,185,927 at an average price of $14.74 per
share.





10.            FAIR
VALUE MEASUREMENT





On
January 1, 2008, the Company adopted Financial Accounting Standards Board (FASB)
Statement No. 157 (SFAS 157), Fair Value Measurements. SFAS
157 defines fair value, establishes a framework for measuring fair value under
GAAP and expands disclosures about fair value measurements. There was no
cumulative effect adjustment to beginning retained earnings recorded upon
adoption and no impact on the financial statements in the first nine months of
2008.





The
following tables present information about the Company’s assets and liabilities
measured at fair value on a recurring and non recurring basis as of September
30, 2008, and indicates the fair value hierarchy of the valuation techniques
utilized by the Company to determine such fair value based on the
hierarchy:





Level 1:
Quoted prices (unadjusted) or identical assets or liabilities in active markets
that the entity has the ability to access as of the measurement
date.





Level 2:
Significant other observable inputs other than Level 1 prices such as quoted
prices for similar assets or liabilities; quoted prices in markets that are not
active; or other inputs that are observable or can be corroborated by observable
market data.





Level 3:
Significant unobservable inputs that reflect a reporting entity’s own
assumptions about the assumptions that market participants would use in pricing
an asset or liability.


12
 Index





In
certain cases, the inputs used to measure fair value may fall into different
levels of the fair value hierarchy. In such cases, the level in the fair value
hierarchy within which the fair value measurement in its entirety falls has been
determined based on the lowest level input that is significant to the fair value
measurement in its entirety. The Company’s assessment of the significance of a
particular input to the fair value measurement in its entirety requires
judgment, and considers factors specific to the asset or liability.





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





Fair
      Value Measurementsat
      September 30, 2008, UsingQuoted
      Prices in
            
            Other
            
            SignificantActive
      Markets for
            
            Observable
            
            Unobservable(in
    thousands)
            
            Fair
      Value
            
            Identical
      Assets
            
            Inputs
            
            InputsSeptember
      30, 2008
            
            (Level
      1)
            
            (Level
      2)
            
            (Level
      3)Assets:Available-for-sale
      investment securities
            
            $
            41,960
            
            
            
            —
            
            
            $
            41,960
            
            
            
            —





The fair
value of securities available for sale equals quoted market price, if
available.  If quoted market prices are not available, fair value is
determined using quoted market prices for similar securities.  Changes
in fair market value are recorded in other comprehensive income.





Financial
assets and liabilities measured at fair value on a non-recurring basis are
summarized below:


Fair
      Value Measurementsat
      September 30, 2008, UsingQuoted
      Prices in
            
            Other
            
            SignificantActive
      Markets for
            
            Observable
            
            Unobservable(in
    thousands)
            
            Fair
      Value
            
            Identical
      Assets
            
            Inputs
            
            InputsSeptember
      30, 2008
            
            (Level
      1)
            
            (Level
      2)
            
            (Level
      3)Assets:Impaired
      loans
            
            $
            2,953,000
            
            
            $
            —
            
            
            $
            2,953,000
            
            
            $
            —




Impaired
loans are measured at fair value on a nonrecurring basis. Any fair value
adjustments are recorded in the period incurred as provision for loan losses
expense on the Condensed Consolidated Statement of Income.  Impaired
loans, which are measured for impairment using the fair value of the collateral
for collateral dependent loans, had outstanding principal balances of $2,953,000
at September 30, 2008, with a valuation allowance of $506,000 at September 30,
2008.  Declines in the fair value of collateral on impaired loans and
therefore the increase in specific allocations of the allowance for loan losses,
were $506,000 during the nine months ended September 30, 2008.





11.            NEW
ACCOUNTING PRONOUNCEMENTS





In May
2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally
Accepted Accounting Principles"(SFAS No. 162).  This standard
identifies the sources of accounting principles and the framework for selecting
the principles to be used in the preparation of financial statements of
nongovernmental entities that are presented in conformity with GAAP. The
provisions of SFAS No. 162 did not have a material impact on the Company’s
condensed consolidated financial statements.





On
October 10, 2008, the FASB issued FSP FAS 157-3, Determining the Fair Value of a
Financial Asset When the Market for That Asset Is Not Active. The FSP clarifies
the application of FASB Statement No. 157, Fair Value Measurements, in a market
that is not active and provides an example to illustrate key considerations in
determining the fair value of a financial asset when the market for that
financial asset is not active. The FSP is effective immediately, and includes
prior period financial statements that have not yet been issued, and therefore
the Company is subject to the


13
 Index


provision
of the FSP effective September 30, 2008.  The implementation of FSP
FAS 157-3 did not affect the Company’s fair value measurement as of September
30, 2008.





12.            SUBSEQUENT
EVENTS





On
October 21, 2008, the Company extended in Stock Repurchase Plan for an
additional period of twelve months, subject to earlier termination at the
Company’s discretion.  The number, price and timing of the repurchase
shall be at the Company’s sole discretion and the plan may be re-evaluated
depending on market conditions, liquidity needs or other factors.  The
Board, based on such re-evaluations, may suspend, terminate, modify or cancel
the plan at any time without notice.











14
 Index





ITEM
2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS




The
following discussion and analysis should be read in conjunction with the
condensed consolidated financial statements and related notes appearing
in  Item 1, Financial Statements, in this Quarterly Report on
Form 10-Q and the consolidated financial statements and notes thereto
included in Valley Commerce Bancorp’s Annual Report filed on form 10-K for the
year ended December 31, 2007.





Introduction




Overview





Valley
Commerce Bancorp (the Company) is the holding company for Valley Business Bank
(the Bank), a California state chartered bank.  The Company’s principal
business is to provide financial services through its banking subsidiary in its
primary market areas of Tulare and Fresno Counties in California. The Company
derives its income primarily from interest and fees earned on loans and, to a
lesser extent, interest on investment securities, fees for services provided to
deposit customers, and fees from the brokerage of loans.  The Bank’s
major operating expenses are interest paid on deposits and borrowings and
general operating expenses, consisting primarily of salaries and employee
benefits and, to a lesser extent, occupancy and equipment, data processing and
operations.  The Company does not currently conduct any operations
other than through the Bank.




The
Company earned net income of $478,000, or $0.19 per diluted share for the three
months ended September 30, 2008, compared to $722,000 or $0.28 per diluted share
for the three months ended September 30, 2007.  The Company earned net
income of $1.4 million or $0.57 per diluted share, for the nine-month period
ended September 30, 2008, compared to $2.0 million, or $0.77 per diluted share,
for the nine-month period ended September 30, 2007.  The annualized
return on average assets was 0.65% for the nine months ended September 30, 2008
and 1.00% for the same 2007 period.  The annualized return on average
shareholders’ equity for the nine months ended September 30, 2008 and 2007 was
6.55% and 10.03%, respectively.  While increased net interest income
contributed to a $725,000 increase in earnings, the overall decrease in earnings
was primarily due to the $1.2 million provision for loan losses made during the
nine-month period ended September 30, 2008 compared to no provision being made
during the same period in 2007.




At
September 30, 2008, the Company’s total assets were $306 million, representing
an increase of $27 million or 10% compared to December 31, 2007, and an increase
of $25 million or 9% compared to September 30, 2007.  Federal funds
sold totaled $15 million at September 30, 2008 compared to no balance at either
December 31, 2007 or September 30, 2007.  The balance of Federal funds
at September 30, 2008 resulted from management’s decision to retain a
significant level of liquidity on the balance sheet due to a high level of
uncertainty in the financial markets.  The remaining increase in total
assets resulted primarily from loan growth.  The underlying funding
for asset growth during the nine months of 2008 was provided through the
maturity and sale of available-for-sale investment securities and increases in
time deposits.




Total
loans, net of the allowance for loan losses, were $225 million at September 30,
2008, representing an increase of $25 million or 13% compared to December 31,
2007, and an increase of $27 million or 14% compared to September 30,
2007.  Loan volume growth in the 2008 period centered in new
commercial real estate loans and draws made on existing commercial lines of
credit.  The Bank’s real estate construction lending, a significant
source of loan growth in prior periods, declined due to implementation of more
conservative underwriting standards and less favorable market
conditions.




Total
deposits were $258 million at September 30, 2008, representing an increase of
$43 million or 20% compared to December 31, 2007, and an increase of $48 million
or 23% compared to September 30, 2007.  In the nine months of 2008,
time deposits, including brokered time deposits, increased by $37 million or
56%.  The amount of brokered time deposits at September 30, 2008,
December 31, 2007, and September 30, 2007 were $19 million, $3 million, and $6
million, respectively.  The Company’s long term growth strategy is
based on acquiring core deposits in its local market rather than relying heavily
on brokered time deposits or other wholesale funding sources.




At
September 30, 2008, the Company’s leverage ratio was 10.6% while its tier 1
risk-based capital ratio and total risk-based capital ratio were 12.6% and
13.7%, respectively.  At December 31, 2007, the Company’s leverage
ratio was 11.5%


15
 Index


while its
tier 1 risk-based capital ratio and total risk-based capital ratio were 13.8%
and 14.6 %, respectively.  The leverage, tier 1 risk-based capital and
total risk-based capital ratios at September 30, 2007 were 11.7%, 13.7% and
14.5%, respectively.  The Company’s capital ratios declined between
September 30, 2008 and September 30, 2007 as a result of stock repurchases made
under a stock repurchase plan implemented in November 2007 and asset growth
during that period.  These factors were offset by capital additions
from earnings and the exercise of stock options.




Critical
Accounting Policies




There
have been no changes to the Company’s critical accounting policies from those
discussed in the Company’s 2007 Annual Report to Shareholders’ on Form
10-K.




Results
of Operations for the Nine Months Ended September 30, 2008 and 2007




Net
Interest Income




The
following table presents the Company’s average balance sheet, including weighted
average yields and rates on a taxable-equivalent basis, for the nine-month
periods indicated:





Averagebalances andweightedaverageyields andcostsNine
      Months ended September 30,2008
              
              
              2007Interest
              
              
              Average
              
              
              
              
              
              Interest
              
              
              AverageAverage
              
              
              income/
              
              
              yield/
              
              
              Average
              
              
              income/
              
              
              yield/(dollars
      in thousands)
              
              Balance
              
              
              Expense
              
              
              Cost
              
              
              Balance
              
              
              Expense
              
              
              CostASSETSFederal
      funds sold
              
              $
              9,988
              
              
              $
              147
              
              
              
              1.97
              %
              
              $
              73
              
              
              $
              3
              
              
              
              5.13
              %Available-for-sale
      investment securities:Taxable
              
              
              27,452
              
              
              
              1,013
              
              
              
              4.93
              %
              
              
              34,416
              
              
              
              1,141
              
              
              
              4.43
              %Exempt
      from Federal income taxes (1)
              
              
              19,560
              
              
              
              596
              
              
              
              6.17
              %
              
              
              18,915
              
              
              
              574
              
              
              
              6.15
              %Total
      securities (1)
              
              
              47,012
              
              
              
              1,609
              
              
              
              5.45
              %
              
              
              53,331
              
              
              
              1,715
              
              
              
              5.04
              %Loans
      (2) (3)
              
              
              216,323
              
              
              
              11,651
              
              
              
              7.20
              %
              
              
              192,546
              
              
              
              12,071
              
              
              
              8.38
              %Total
      interest-earning assets (1)
              
              
              273,323
              
              
              
              13,407
              
              
              
              6.70
              %
              
              
              245,950
              
              
              
              13,789
              
              
              
              7.66
              %Noninterest-earning
      assets, net of allowance for loan losses
              
              
              20,215
              
              
              
              
              
              
              
              
              
              
              
              18,337Total
      assets
              
              $
              293,538
              
              
              
              
              
              
              
              
              
              
              $
              264,287LIABILITIES
      AND SHAREHOLDERS’ EQUITYDeposits:Other
      interest bearing
              
              $
              91,492
              
              
              $
              1,300
              
              
              
              1.90
              %
              
              $
              80,735
              
              
              $
              1,821
              
              
              
              3.02
              %Time
      deposits less than $100,000
              
              
              22,551
              
              
              
              209
              
              
              
              3.61
              %
              
              
              21,303
              
              
              
              762
              
              
              
              4.78
              %Time
      deposits $100,000 or more
              
              
              60,838
              
              
              
              1,793
              
              
              
              3.94
              %
              
              
              50,471
              
              
              
              1,901
              
              
              
              5.04
              %Total
      interest-bearing deposits
              
              
              174,881
              
              
              
              3,702
              
              
              
              2.83
              %
              
              
              152,509
              
              
              
              4,484
              
              
              
              3.93
              %Short-term
      debt
              
              
              11,889
              
              
              
              246
              
              
              
              2.77
              %
              
              
              12,241
              
              
              
              485
              
              
              
              5.30
              %Long-term
      debt
              
              
              6,635
              
              
              
              234
              
              
              
              4.72
              %
              
              
              8,330
              
              
              
              273
              
              
              
              4.38
              %Junior
      subordinated deferrable interest debentures
              
              
              3,093
              
              
              
              156
              
              
              
              6.74
              %
              
              
              3,093
              
              
              
              203
              
              
              
              8.77
              %Total
      interest-bearing liabilities
              
              
              196,498
              
              
              
              4,338
              
              
              
              2.95
              %
              
              
              176,173
              
              
              
              5,445
              
              
              
              4.13
              %Noninterest-bearing
      deposits
              
              
              65,856
              
              
              
              
              
              
              
              
              
              
              
              59,708Other
      liabilities
              
              
              1,975
              
              
              
              
              
              
              
              
              
              
              
              1,930Total
      liabilities
              
              
              264,329
              
              
              
              
              
              
              
              
              
              
              
              237,811Shareholders’
      equity
              
              
              29,209
              
              
              
              
              
              
              
              
              
              
              
              26,476Total
      liabilities and shareholders’ equity
              
              $
              293,538
              
              
              
              
              
              
              
              
              
              
              $
              264,287Net
      interest income and margin (1)
              
              
              
              
              
              $
              9,069
              
              
              $
              4.59
              %
              
              
              
              
              
              $
              8,344
              
              
              $
              4.70
              %




(1)  
      Interest income is not presented on a taxable-equivalent basis, however,
      the average yield was calculated on a taxable-equivalent basis by using a
      marginal tax rate of 34%.(2)   Nonaccrual
      loans are included in total loans. Interest income is included on
      nonaccrual loans only to the extent cash payments have been
      received. Interest income of $8 was received on nonaccrual loans for
      the 2008 period compared to none received in the 2007
    period.(3)  
      Interest income on loans includes amortized loan fees, net of costs, of
      $454 and $269 for 2008 and 2007,
respectively.





16
 Index


The
following table sets forth a summary of the changes in interest income and
interest expense from changes in average earning assets and interest-bearing
liabilities (volume) and changes in average interest rates for the nine-month
periods ended September 30, 2008 and 2007.





Changes in net
      interest income due to changes in volumes and rates2008
      period vs 2007 periodIncrease
      (decrease) due to change in:Average
            
            
            AverageVolume
            
            
            Rate
      (1)
            
            
            Total(In
      thousands)Increase
      (decrease) in interest income:Federal
      funds sold
            
            $
            381
            
            
            $
            (237
            )
            
            $
            144Investment
      securitiesTaxable
            
            
            (231
            )
            
            
            103
            
            
            
            (128
            )Exempt
      from Federal income taxes
            
            
            30
            
            
            
            (8
            )
            
            
            22Total
      securities
            
            
            (201
            )
            
            
            95
            
            
            
            (106
            )Loans
            
            
            1,492
            
            
            
            (1,912
            )
            
            
            (420
            )Total
      interest income
            
            
            1,672
            
            
            
            (2,054
            )
            
            
            (382
            )(Decrease)
      increase in interest expense:Other
      interest bearing deposits
            
            
            243
            
            
            
            (764
            )
            
            
            (521
            )Time
      deposits less than $100,000
            
            
            45
            
            
            
            (198
            )
            
            
            (153
            )Time
      deposits $100,000 or more
            
            
            391
            
            
            
            (499
            )
            
            
            (108
            )Total
      interest-bearing deposits
            
            
            679
            
            
            
            (1,461
            )
            
            
            (782
            )Short-term
      debt
            
            
            (14
            )
            
            
            (225
            )
            
            
            (239
            )Long-term
      debt
            
            
            (56
            )
            
            
            17
            
            
            
            (39
            )Junior
      subordinated deferrable interest debentures
            
            
            -
            
            
            
            (47
            )
            
            
            (47
            )Total
      interest expense
            
            
            609
            
            
            
            (1,716
            )
            
            
            (1,107
            )(Increase)
      decrease in net interest income
            
            $
            1,063
            
            
            $
            (338
            )
            
            $
            725


(1)
            Factors
      contributing to both changes in rate and volume have been attributed to
      changes in rates.


Net
interest income was $9.1 million for the nine-month period ended September 30,
2008 compared to $8.3 million for the same period of 2007, an increase of
$725,000 or 9%.  Growth in average interest-earning assets and
interest-bearing liabilities caused a net increase in the Company’s net interest
income of $1.1 million, while decreases in interest rates on these same accounts
caused a net decrease in interest income of $338,000.




Comparing
the nine-month periods ended September 30, 2008 and 2007, the Company’s net
interest margin on a taxable equivalent basis decreased 11 bps, from 4.70% in
the 2007 period to 4.59% in the 2008 period.  The Company’s net
interest margin remained relatively stable despite the Fed funds rate decreases
totaling 325 basis points during the period September 2007 to September
2008.  The net interest margin stability was attributable to both loan
growth and management’s efforts to mitigate the impact of falling interest
rates.  These efforts included adding assets earning fixed interest
rates to the balance sheet, requiring interest rate floors on variable priced
loans, utilizing variable priced funding, and aggressively lowering deposit
rates.




Total
interest income decreased by $382,000 or 3% when comparing the nine-month
periods ended September 30, 2008 and 2007 to $13.4 million from $13.8 million,
respectively.  The weighted average tax-equivalent yield on total
interest-earning assets was 6.70% in the 2008 period compared to 7.66% in the
2007 period, a reduction of 96 basis points.  Offsetting the impact of
declining interest rates was a $27.4 million, or 11%, increase in average
earning assets.




Despite a
$23.8 million or 12% increase in average loans, the Company’s interest income
from loans decreased by $420,000 in the 2008 period due to the average yield on
loans decreasing by 118 basis points as a result of falling interest rates
impacting the variable priced portion of the Company’s loan
portfolio.  In addition, there was a $106,000 decrease in interest
income on available-for-sale investment securities in the 2008 period due to a
$6.3 million decrease in average


17
 Index


balance
due to called, sold, and matured securities.  Interest income on
Federal funds sold increased by $144,000 in the 2008 period as the average
balance increased to $10.0 million compared to just $73,000 in the 2007
period.




Foregone
interest on nonaccrual loans totaled $50,000 for the nine-month period ended
September 30, 2008.  Interest income recognized on nonaccrual loans
due to the receipt of cash payments totaled $8,000 during this
period.  There was no interest foregone during the nine month period
ended September 30, 2007.




Total
interest expense for the nine-month periods ended September 30, 2008 and 2007
was $4.3 million and $5.4 million, respectively, a decrease of $1.1 million or
20%, which resulted from falling interest rates.  The average rate
paid on interest-bearing liabilities was 2.95% in the 2008 period compared to
4.13% in the 2007 period, a reduction of 118 basis points.  Average
total interest-bearing liabilities in the 2008 period increased by $20.3 million
or 12% compared to the 2007 period.  This included an increase in
average other interest-bearing deposits of $10.8 million or 13% and an increase
in average time deposits of $11.6 million or 16%, that were offset by a decrease
in averaged borrowed funds of $2.1 million or 9%.




Further
enhancing the Company’s cost of funds was an increase of $6.1 million or 10% in
average non-interest bearing deposits in the 2008 period compared to the same
period in 2007.




Provision
for Loan Losses




The
provision for loan losses, which is included in operations to support the
required level of the allowance for loan losses, is based on the Company’s
actual loss experience and management’s evaluation of loan portfolio risk under
current economic conditions.  A $1.2 million loan loss provision was
recorded during the nine months ended September 30, 2008 compared to no
provision for loan losses for the nine-month period ended September 30,
2007.  Key factors in management’s determination of the provision for
loan losses included a significant decline in real estate values in the Bank’s
primary markets and a slowing economy.  See the sections below titled
“Allowance for Loan Losses.”




Non-Interest
Income




Non-interest
income for the nine-month periods ended September 30, 2008 and 2007 totaled
$992,000 and $873,000, respectively, an increase of $119,000 or
14%.  The components of non-interest income during each period were as
follows:




Non-interest
      incomeNine
      Months ended September 30,(in
      thousands)
            
            2008
            
            
            2007
            
            
            Increase(Decrease)Service
      charges
            
            $
            528
            
            
            $
            432
            
            
            $
            96Gain
      (loss) on sale of AFS investment securities
            
            
            46
            
            
            
            (1
            )
            
            
            47Mortgage
      loan brokerage fees
            
            
            42
            
            
            
            66
            
            
            
            (24
            )Earnings
      on cash surrender value of life insurance policies
            
            
            201
            
            
            
            195
            
            
            
            6Other
            
            
            175
            
            
            
            181
            
            
            
            (6
            )Total
      non-interest income
            
            $
            992
            
            
            $
            873
            
            
            $
            119


Service
charges increased by $96,000 due to increased deposits and a higher fee
structure; within this category, account analysis charges increased by $38,000
and non-sufficient funds and overdraft charges increased by
$53,000.  In addition, the Company recorded a $46,000 gain on sale of
investment securities in the 2008 period compared to a slight loss in the prior
year.  These favorable variances were offset by a $24,000 decrease in
mortgage loan brokerage fees which was attributable to a slowing
economy.


18
 Index


Non-Interest
Expense




Non-interest
expense was $6.8 million for the nine-month period ended September 30, 2008
compared to $6.4 million for the nine-month period ended September 30, 2007, an
increase of $461,000 or 7%.  The increase was due to employee costs
associated with the Company’s growth initiatives, higher deposit insurance
costs, and increased occupancy and equipment costs.  Salaries and
benefits increased by $258,000 or 10% due to normal salary adjustments and new
employees hired to staff the Company’s new branch office in
Tulare.  Occupancy and equipment expense increased by $178,000
primarily due to the relocation of the Fresno branch to a larger leased facility
in the latter part of 2007 and the opening of a full service branch in the City
of Tulare during May 2008.




Assessment
and insurance increased by $56,000 due to higher Federal Deposit Insurance
Corporation assessments rates imposed in mid-2007.  Data processing
costs increased by $45,000 due primarily to the increased usage of electronic
banking products by customers and branch operations staff.  Other
expenses increased by $12,000 primarily as a result of fees paid to fill vacant
officer positions.  Professional and legal costs decreased by $113,000
in the 2008 period due to reduced use of outside legal counsel on various
corporate matters and reduced consultant costs related to the implementation of
Sarbanes-Oxley legislative requirements.  Amortization expense
decreased by $39,000 due to deposit acquisition premiums reaching full
amortization in the first quarter of 2008.




The
following table describes the components of non-interest expense for the
nine-month periods ended September 30, 2008 and 2007:





Non-interest
      expenseNine
      Months endedSeptember 30,(in
      thousands)
            
            2008
            
            
            2007
            
            
            Increase
              (Decrease)Salaries
      and employee benefits
            
            $
            3,821
            
            
            $
            3,563
            
            
            $
            258Occupancy
      and equipment
            
            
            934
            
            
            
            756
            
            
            
            178Data
      processing
            
            
            390
            
            
            
            345
            
            
            
            45Operations
            
            
            389
            
            
            
            346
            
            
            
            43Professional
      and legal
            
            
            277
            
            
            
            390
            
            
            
            (113
            )Advertising
      and business development
            
            
            209
            
            
            
            201
            
            
            
            8Telephone
      and postal
            
            
            163
            
            
            
            160
            
            
            
            3Supplies
            
            
            142
            
            
            
            132
            
            
            
            10Assessment
      and insurance
            
            
            188
            
            
            
            132
            
            
            
            56Amortization
      expense
            
            
            8
            
            
            
            47
            
            
            
            (39
            )Other
      expenses
            
            
            315
            
            
            
            303
            
            
            
            12Total
      non-interest expense
            
            $
            6,836
            
            
            $
            6,375
            
            
            $
            461





Provision
for Income Taxes


The
provision for income taxes for the nine-month periods ended September 30, 2008
and 2007 was $594,000 and $857,000, respectively.  The effective tax
rates for these periods were 29.32%, and 30.15%, respectively.  The
decrease in the effective tax rate was primarily due to lower pretax income in
the 2008 period which magnified the impact of permanent tax differences in the
computation of the effective tax rate.











19
 Index








Results
of Operations for the Three Months Ended September 30, 2008




Net
Interest Income




The
following table presents the Company’s average balance sheet, including weighted
average yields and rates on a taxable-equivalent basis, for the three-month
periods indicated:





Averagebalances andweightedaverageyields andcostsThree
      Months ended September 30,2008
            
            
            2007Interest
            
            
            Average
            
            
            
            
            
            Interest
            
            
            AverageAverage
            
            
            income/
            
            
            yield/
            
            
            Average
            
            
            income/
            
            
            yield/(dollars
      in thousands)
            
            Balance
            
            
            Expense
            
            
            Cost
            
            
            Balance
            
            
            Expense
            
            
            CostASSETSFederal
      funds sold
            
            $
            20,291
            
            
            $
            99
            
            
            
            1.94
            %
            
            $
            65
            
            
            $
            1
            
            
            
            5.09
            %Available-for-sale
      investment securities:Taxable
            
            
            23,340
            
            
            
            295
            
            
            
            5.01
            %
            
            
            33,293
            
            
            
            359
            
            
            
            4.28
            %Exempt
      from Federal income taxes (1)
            
            
            19,742
            
            
            
            203
            
            
            
            6.18
            %
            
            
            19,038
            
            
            
            192
            
            
            
            6.06
            %Total
      securities (1)
            
            
            43,082
            
            
            
            498
            
            
            
            5.55
            %
            
            
            52,331
            
            
            
            551
            
            
            
            4.93
            %Loans
      (2) (3)
            
            
            224,164
            
            
            
            3,907
            
            
            
            6.91
            %
            
            
            199,047
            
            
            
            4,164
            
            
            
            8.30
            %Total
      interest-earning assets (1)
            
            
            287,537
            
            
            
            4,504
            
            
            
            6.38
            %
            
            
            251,443
            
            
            
            4,716
            
            
            
            7.60
            %Noninterest-earning
      assets, net of allowance for loan losses
            
            
            19,872
            
            
            
            
            
            
            
            
            
            
            
            18,957Total
      assets
            
            $
            307,409
            
            
            
            
            
            
            
            
            
            
            $
            270,400LIABILITIES
      AND SHAREHOLDERS’ EQUITYDeposits:Interest
      bearing
            
            $
            91,362
            
            
            $
            409
            
            
            
            1.78
            %
            
            $
            88,306
            
            
            $
            661
            
            
            
            2.97
            %Time
      deposits less than $100,000
            
            
            28,759
            
            
            
            245
            
            
            
            3.38
            %
            
            
            20,490
            
            
            
            244
            
            
            
            4.72
            %Time
      deposits $100,000 or more
            
            
            74,167
            
            
            
            665
            
            
            
            3.56
            %
            
            
            49,901
            
            
            
            630
            
            
            
            5.01
            %Total
      interest-bearing deposits
            
            
            194,288
            
            
            
            1,319
            
            
            
            2.69
            %
            
            
            158,697
            
            
            
            1,535
            
            
            
            3.84
            %Short-term
      debt
            
            
            8,000
            
            
            
            52
            
            
            
            2.58
            %
            
            
            10,149
            
            
            
            131
            
            
            
            5.12
            %Long-term
      debt
            
            
            5,511
            
            
            
            70
            
            
            
            5.04
            %
            
            
            8,218
            
            
            
            91
            
            
            
            4.39
            %Junior
      subordinated deferrable interest debentures
            
            
            3,093
            
            
            
            48
            
            
            
            6.16
            %
            
            
            3,093
            
            
            
            68
            
            
            
            8.77
            %Total
      interest-bearing liabilities
            
            
            210,892
            
            
            
            1,489
            
            
            
            2.80
            %
            
            
            180,157
            
            
            
            1,825
            
            
            
            4.02
            %Noninterest
      bearing deposits
            
            
            65,754
            
            
            
            
            
            
            
            
            
            
            
            60,412Other
      liabilities
            
            
            1,603
            
            
            
            
            
            
            
            
            
            
            
            2,587Total
      liabilities
            
            
            278,249
            
            
            
            
            
            
            
            
            
            
            
            243,156Shareholders’
      equity
            
            
            29,160
            
            
            
            
            
            
            
            
            
            
            
            27,244Total
      liabilities and shareholders’ equity
            
            $
            307,409
            
            
            
            
            
            
            
            
            
            
            $
            270,400Net
      interest income and margin (1)
            
            
            
            
            
            $
            3,015
            
            
            
            4.30
            %
            
            
            
            
            
            $
            2,891
            
            
            
            4.72
            %




(1) 
       Interest income is not presented on a taxable-equivalent basis,
      however, the average yield was calculated on a taxable- equivalent basis
      by using a marginal tax rate of 34%.(2) 
       Nonaccrual loans are included in total loans.  Interest
      income is included on nonaccrual loans only to the extent cash payments
      have been received.  Interest income of $8 was received on
      nonaccrual loans for the 2008 period compared to none received in the 2007
      period.(3)  
      Interest income on loans includes amortized loan fees, net of costs, of
      $150  and $76 for 2008 and 2007,
  respectively.





20
 Index


The
following table sets forth a summary of the changes in interest income and
interest expense from changes in average earning assets and interest-bearing
liabilities (volume) and changes in average interest rates for the three-month
periods ended September 30, 2008 and 2007.





Changes in net
      interest income due to changes in volumes and rates2008
      period vs. 2007 periodIncrease
      (decrease) due to change in:Average
            
            
            AverageVolume
            
            
            Rate
      (1)
            
            
            Total(In
      thousands)Increase
      (decrease) in interest income:Federal
      funds sold
            
            $
            259
            
            
            $
            (161
            )
            
            $
            98Investment
      securitiesTaxable
            
            
            (107
            )
            
            
            43
            
            
            
            (64
            )Exempt
      from Federal income taxes
            
            
            11
            
            
            
            -
            
            
            
            11Total
      securities
            
            
            (96
            )
            
            
            43
            
            
            
            (53
            )Loans
            
            
            524
            
            
            
            (781
            )
            
            
            (257
            )Total
      interest income
            
            
            687
            
            
            
            (899
            )
            
            
            (212
            )(Decrease)
      increase in interest expense:Other
      interest-bearing deposits
            
            
            23
            
            
            
            (275
            )
            
            
            (252
            )Time
      deposits less than $100,000
            
            
            98
            
            
            
            (97
            )
            
            
            1Time
      deposits $100,000 or more
            
            
            306
            
            
            
            (271
            )
            
            
            35Total
      interest-bearing deposits
            
            
            427
            
            
            
            (643
            )
            
            
            (216
            )Short-term
      debt
            
            
            (28
            )
            
            
            (51
            )
            
            
            (79
            )Long-term
      debt
            
            
            (30
            )
            
            
            9
            
            
            
            (21
            )Junior
      subordinated deferrable interest debentures
            
            
            -
            
            
            
            (20
            )
            
            
            (20
            )Total
      interest expense
            
            
            369
            
            
            
            (705
            )
            
            
            (336
            )Decrease
      in net interest income
            
            $
            318
            
            
            $
            (194
            )
            
            $
            124


(1)
            Factors
      contributing to both changes in rate and volume have been attributed to
      changes in rates.


Net
interest income was $3.0 million for the three-month period ended September 30,
2008 compared to $2.9 million for the same period of 2007, an increase of
$124,000 or 4%.  Growth in average interest-earning assets and
interest-bearing liabilities caused the Company’s net interest income to
increase by $318,000, while changes in interest rates on these same accounts
caused interest income to decrease by $194,000.




Comparing
the three-month periods ended September 30, 2008 and 2007, the Company’s net
interest margin on a taxable equivalent basis decreased 42 bps, from 4.72% in
the 2007 period to 4.30% in the 2008 period.  The decrease in the
Company’s net interest margin was due to the Fed funds rate decreases totaling
325 basis points during the period September 2007 to September
2008.  The net interest margin remained fairly stable due to both loan
growth and management’s efforts to mitigate the impact of falling interest
rates.  These efforts included adding assets earning fixed interest
rates to the balance sheet, requiring interest rate floors on variable priced
loans, utilizing variable priced funding, and aggressively lowering deposit
rates.




Total
interest income for the three-month periods ended September 30, 2008 and 2007
was $4.5 million and $4.7 million, respectively, a decrease of $213,000 or
5%.  The decrease resulted primarily from falling interest rates and
was offset by growth in average interest-earning assets which increased by $36.1
million or 14%, including growth in average loans of $25.1 million or
13%.  Another offset was from interest income on Federal funds sold
which increased by $98,000 in the 2008 period as the average balance increased
to $20.3 million from just $65,000 in the 2007 period.




The
weighted average tax-equivalent yield on average earning assets decreased from
7.60% in the 2007 period to 6.38% in the 2008 period, a reduction of 122 basis
points, which primarily reflected the weighted average yield on loans decreasing
from 8.30% in the 2007 period to 6.91% in the 2008 period, a reduction of 139
basis points.  In addition, there


21
 Index


was a
$53,000 decrease in interest income on available-for-sale investment securities
in the 2008 period due to a $9.2 million or 18% decrease in average balance due
to called and matured securities.




Total
interest expense for the three-month periods ended September 30, 2008 and 2007
was $1.5 million and $1.8 million, respectively, a decrease of $336,000 or 18%,
which resulted from falling interest rates.  The average rate paid on
interest-bearing liabilities was 2.80% in the 2008 period compared to 4.02% in
the 2007 period, a reduction of 122 basis points.


Average
total interest-bearing liabilities in the 2008 period increased by $30.7 million
or 17% compared to the 2007 period.  This included an increase in
average other interest-bearing deposits of $3.1 million or 3%, an increase in
average time deposits of $32.5 million or 46%, and a decrease in averaged
borrowed funds of $4.9 million or 23%.  The increase in average time
deposits reflects the results of a successful deposit promotion and the
acquisition of additional brokered time deposits.




Further
enhancing the Company’s cost of funds was an increase of $5.3 million or 9% in
average non-interest bearing deposits in the 2008 period compared to the same
period in 2007.




Provision
for Loan Losses




The
provision for loan losses, which is included in operations to support the
required level of the allowance for loan losses, is based on the Company’s
actual loss experience and management’s evaluation of loan portfolio risk under
current economic conditions.  A $400,000 loan loss provision was
recorded during the three months ended September 30, 2008 compared to no
provision for loan losses for the three-month period ended September 30,
2007.  Key factors in management’s determination of the provision for
loan losses included a significant decline in real estate values in the Bank’s
primary markets and a slowing economy.  See the sections below titled
“Allowance for Loan Losses.”




Non-Interest
Income




Non-interest
income for the three-month periods ended September 30, 2008 and 2007 totaled
$312,000 and $300,000, respectively, an increase of $12,000 or
4%.  The components of non-interest income during each period were as
follows:








Non-interest
      incomeThree
      Months ended
              September
      30,(in
      thousands)
            
            2008
            
            
            2007
            
            
            Increase
              (Decrease)Service
      charges
            
            $
            192
            
            
            $
            156
            
            
            $
            36Mortgage
      loan brokerage fees
            
            
            8
            
            
            
            19
            
            
            
            (11
            )Earnings
      on cash surrender value of life insurance policies
            
            
            68
            
            
            
            67
            
            
            
            1Other
            
            
            44
            
            
            
            58
            
            
            
            (14
            )Total
      non-interest income
            
            $
            312
            
            
            $
            300
            
            
            $
            12




Service
charges increased by $36,000 due to increased deposits and a higher fee
structure.  Within this category, account analysis charges increased
by $19,000 and non-sufficient funds and overdraft charges increased by
$17,000.  These favorable variances were offset by an $11,000 decrease
in mortgage loan brokerage fees which was attributable to a slowing
economy.




Non-Interest
Expense




Non-interest
expense was $2.3 million for the three-month period ended September 30, 2008
compared to $2.2 million for the three-month period ended September 30, 2007, an
increase of $96,000 or 4%.  The increase was due to employee costs
associated with the Company’s growth initiatives, higher deposit insurance
costs, and increased occupancy and equipment costs.  Salaries and
benefits increased by $118,000 or 10% due to normal salary adjustments and new
employees hired to staff the Company’s new branch office in
Tulare.  Occupancy and equipment expense increased by $74,000
primarily due to the relocation of the Fresno branch to a larger leased facility
in the latter part of 2007 and the opening of a full service branch in the City
of Tulare during May 2008.


22
 Index





Other
expenses decreased by $27,000 primarily as a result of a recovery of a sundry
loss.  Professional and legal costs decreased by $79,000 in the 2008
period due to reduced use of outside legal counsel on various corporate matters
and reduced consultant costs related to implementation of Sarbanes-Oxley
legislative requirements.  Amortization expense decreased by $16,000
due to deposit acquisition premiums reaching full amortization in the first
quarter of 2008.




The
following table describes the components of non-interest expense for the
three-month periods ended September 30, 2008 and 2007:





Non-interest
      expenseThree
      Months ended
              September
      30,(in
      thousands)
            
            2008
            
            
            2007
            
            
            Increase
              (Decrease)Salaries
      and employee benefits
            
            $
            1,265
            
            
            $
            1,147
            
            
            $
            118Occupancy
      and equipment
            
            
            335
            
            
            
            261
            
            
            
            74Data
      processing
            
            
            130
            
            
            
            124
            
            
            
            6Operations
            
            
            134
            
            
            
            122
            
            
            
            12Professional
      and legal
            
            
            83
            
            
            
            162
            
            
            
            (79
            )Advertising
      and business development
            
            
            71
            
            
            
            58
            
            
            
            13Telephone
      and postal
            
            
            54
            
            
            
            60
            
            
            
            (6
            )Supplies
            
            
            49
            
            
            
            50
            
            
            
            (1
            )Assessment
      and insurance
            
            
            66
            
            
            
            64
            
            
            
            2Amortization
      expense
            
            
            -
            
            
            
            16
            
            
            
            (16
            )Other
      expenses
            
            
            59
            
            
            
            86
            
            
            
            (27
            )Total
      non-interest expense
            
            $
            2,246
            
            
            $
            2,150
            
            
            $
            96





Provision
for Income Taxes





The
provision for income taxes for the three-month periods ended September 30, 2008
and 2007 was $202,000 and $320,000, respectively.  The effective tax
rates for these periods were 29.70%, and 30.9%, respectively. The increase in
effective tax rate was primarily due to lower pretax income in the 2008 period
which magnified the impact of permanent tax differences in the computation of
the effective tax rate.





Financial
Condition





Fair
Value





Effective
January 1, 2008, we adopted SFAS No. 157, Fair Value Measurements,
which requires enhanced disclosures about financial instruments carried at fair
value.  SFAS No. 157 established a hierarchical disclosure framework
associated with the level of observable pricing scenarios utilized in measuring
financial instruments at fair value.  The degree of judgment utilized
in measuring the fair value of financial instruments generally correlates to the
level of the observable pricing scenario.  Financial instruments with
readily available active quoted prices or for which fair value can be measured
from actively quoted prices generally will have a higher degree of observable
pricing and a lesser degree of judgment utilized in measuring fair
value.  Conversely, financial instruments rarely traded or not quoted
will generally have little or no observable pricing and a higher degree of
judgment utilized in measuring fair value.  Observable pricing
scenarios are impacted by a number of factors, including the type of financial
instruments, whether the financial instrument is new to the market and not yet
established and the characteristics specific to the transaction.  See
Note 10 of the Notes to
Condensed Consolidated Financial Statements for additional information
about the financial instruments carried at fair value.


23
 Index


Investment
Securities




All
existing investment securities are classified as available-for-sale
securities.  In classifying its investments as available-for-sale, the
Company reports securities at fair value, with unrealized gains and losses
excluded from earnings and reported, net of taxes, as accumulated other
comprehensive income or loss within shareholders’ equity.




The
following tables set forth the estimated market value of available-for-sale
investment securities at the dates indicated:





Market value of
      securities available for saleSeptember
      30, 2008(in
      thousands)
            
            Amortized
              Cost
            
            
            Unrealized
              Gain
            
            
            Unrealized
              Loss
            
            
            Fair
              ValueU.S.
      government  agencies
            
            $
            7,032
            
            
            $
            85
            
            
            $
            (9
            )
            
            $
            7,108Mortgage-backed
      securities
            
            
            15,731
            
            
            
            224
            
            
            
            (50
            )
            
            
            15,905Municipal
      securities
            
            
            19,746
            
            
            
            21
            
            
            
            (1,315
            )
            
            
            18,452Corporate
      debt securities
            
            
            500
            
            
            
            -
            
            
            
            (5
            )
            
            
            495Total
            
            $
            43,009
            
            
            $
            330
            
            
            $
            (1,379
            )
            
            $
            41,960





December
      31, 2007(in
      thousands)
            
            Amortized
              Cost
            
            
            Unrealized
              Gain
            
            
            Unrealized
              Loss
            
            
            Fair
              ValueU.S.
      government  agencies
            
            $
            17,544
            
            
            $
            80
            
            
            $
            (70
            )
            
            $
            17,554Mortgage-backed
      securities
            
            
            16,853
            
            
            
            192
            
            
            
            (85
            )
            
            
            16,960Municipal
      securities
            
            
            19,304
            
            
            
            42
            
            
            
            (227
            )
            
            
            19,119Corporate
      debt securities
            
            
            3,005
            
            
            
            1
            
            
            
            (24
            )
            
            
            2,982Total
            
            $
            56,706
            
            
            $
            315
            
            
            $
            (406
            )
            
            $
            56,615




Management
periodically evaluates each investment security for other than temporary
impairment, relying primarily on industry analyst reports, observation of market
conditions and interest rate fluctuations.  Management believes it
will be able to collect all amounts due according to the contractual terms of
the underlying investment securities and considers declines in the fair value of
individual securities to be temporary.




Loans




The
Company’s lending activities are geographically concentrated in the South San
Joaquin Valley, primarily in Tulare and Fresno counties.  The Company
offers both fixed and floating rate loans and obtains collateral in the form of
real property, business assets, and deposit accounts, but looks to business and
personal cash flows as the primary source of repayment.


The
following table sets forth the breakdown of loans outstanding by type at the
dates indicated by amount and percentage of the portfolio:





(dollars
      in  thousands)
            
            September
      30, 2008
            
            
            December
      31, 2007Commercial
            
            $
            58,261
            
            
            
            26
            %
            
            $
            41,824
            
            
            
            21
            %Real
      estate – mortgage (1)
            
            
            126,124
            
            
            
            55
            
            
            
            106,873
            
            
            
            53Real
      estate – construction
            
            
            37,445
            
            
            
            16
            
            
            
            44,896
            
            
            
            22Agricultural
            
            
            4,331
            
            
            
            2
            
            
            
            4,988
            
            
            
            3Consumer
      and other
            
            
            2,001
            
            
            
            1
            
            
            
            2,995
            
            
            
            1Subtotal
            
            
            228,162
            
            
            
            100
            %
            
            
            201,576
            
            
            
            100
            %Deferred
      loan fees, net
            
            
            (374
            )
            
            
            
            
            
            
            (304
            )Allowance
      for loan losses
            
            
            (2,841
            )
            
            
            
            
            
            
            (1,758
            )Total
      loans, net
            
            $
            224,947
            
            
            
            
            
            
            $
            199,514





(1)
      Consists primarily of commercial mortgage
loans.





24
 Index


During
the nine months ended September 30, 2008, loan growth occurred primarily in the
category of real estate – mortgage and commercial.  The growth
consisted primarily of loans to local business owners, most of whom have other
loan and deposit relationships with the Company, for business expansion
purposes.  The Bank’s real estate construction lending, a significant
source of loan growth in prior periods, declined due to implementation of more
conservative underwriting standards and less favorable market
conditions.




Nonperforming
Assets




There was
$3.0 million in nonperforming assets at September 30, 2008 which was comprised
of five nonaccrual loans for which management has established a specific loss
reserve of $506,000.  One of the nonaccrual loans at September 30 2008
was the residential property loan discussed below in “Allowance for Loan Losses”
which had a book balance of $284,000 following the stated $124,000
charge-off.  Proceeds from the sale of the loan’s collateral were used
to repay this balance in early October.  There were no nonperforming
assets as of December 31, 2007.




Allowance
for Loan Losses




The
Company maintains an allowance for loan losses to provide for estimated credit
losses that, as of the balance sheet date, it is probable the Company will
incur.  Loans determined to be impaired are evaluated individually by
management for determination of the specific loss, if any, that exists as of the
balance sheet date.  In addition, reserve factors are assigned to
currently performing loans based on historical loss rates as adjusted for
current economic conditions, trends in the level and volume of past due and
classified loans, and other qualitative factors.




The
allowance for loan losses totaled $2.84 million or 1.25% of total loans at
September 30, 2008.  This compared to $1.76 million or 0.87% of total
loans at December 31, 2007 and $1.75 million or 0.87% of total loans at
September 30, 2007.  Comparing the September 30, 2008 balance to prior
periods, management increased the allowance for loan losses in both amount and
percentage based on its determination that the amount of probable loan losses in
the loan portfolio had increased due to declining real estate values supporting
collateral for loans and deteriorating economic conditions in the Central Valley
of California.  However, no prediction of the ultimate level of loans
charged off in the future years can be made with any certainty.




The
Company recorded recoveries of $20,000 and charge-offs of $137,000 during the
nine months ended September 30, 2008.  This compared to recoveries of
$6,000 during the same period of 2007.  There were no charge-offs
during the 2007 period.  Approximately $124,000 of the gross
charge-offs in 2008 relates to one loan previously identified by management as
being impaired for which a specific reserve had been established.




The
following table summarizes the changes in the allowance for loan losses for the
periods indicated:





Changes in allowance
      for loan lossesNine
      Months ended
            
            
            Nine
      Months ended
            
            
            Year
      endedSeptember 30, 2008
            
            
            September 30, 2007
            
            
            December 31, 2007(dollars
      in thousands)Balance,
      beginning
            
            $
            1,758
            
            
            $
            1,746
            
            
            $
            1,746Provision
      for  loan losses
            
            
            1,200
            
            
            
            -
            
            
            
            -Charge-offs
            
            
            (137
            )
            
            
            -
            
            
            
            -Recoveries
            
            
            20
            
            
            
            6
            
            
            
            12Balance,
      ending
            
            $
            2,841
            
            
            $
            1,752
            
            
            $
            1,758Annualized
      net charge-offs to average loans outstanding
            
            
            (.06
            )%
            
            
            .00
            %
            
            
            .00
            %Average
      loans outstanding
            
            $
            216,323
            
            
            $
            192,546
            
            
            $
            194,734Ending
      allowance to total loans outstanding
            
            
            1.25
            %
            
            
            0.87
            %
            
            
            0.87
            %





25
 Index


Deposits




Total
deposits were $258 million at September 30, 2008, a $43 million or 20% increase
from the December 31, 2007 total of $215 million.  The increase in
deposits was mostly due to the acquisition of additional brokered deposits and
time deposit promotions during the six month period ended September 30,
2008.  The Company utilized brokered time deposits in addition to
local deposit growth to fund asset growth and maintain targeted liquidity
levels.  The amount of brokered time deposits at September 30, 2008
and December 31, 2007 were $19 million and $3 million,
respectively.  All other deposits were acquired locally.




Total
deposits at September 30, 2008 and December 31, 2007 are summarized in the
following table:





Deposit
      Portfolio(dollars
      in thousands)
            
            September
      30, 2008
            
            
            December
      31, 2007Non-interest
      bearing
            
            $
            65,898
            
            
            
            25
            %
            
            $
            66,993
            
            
            
            31
            %Interest
      bearing
            
            
            90,207
            
            
            
            35
            
            
            
            86,277
            
            
            
            40Time
      deposits
            
            
            102,388
            
            
            
            40
            
            
            
            62,116
            
            
            
            29Total
      deposits
            
            $
            258,493
            
            
            
            100
            %
            
            $
            215,386
            
            
            
            100
            %





Federal
Home Loan Bank Borrowings




The
Company has utilized short-term borrowings from the Federal Home Loan Bank
(FHLB) of San Francisco to fund asset growth during periods when market
conditions for growing the deposit base were unfavorable. At September 30, 2008,
the Company had outstanding borrowings from the Federal Home Loan Bank totaling
$13.5 million.  This debt was comprised of $8.0 million of short-term
fixed rate debt, and $5.5 million of long-term fixed rate debt that is scheduled
to mature through January 2012.  At December 31, 2007, the Company had
$21.8 million in short-term adjustable rate debt and long-term fixed rate debt
totaling $8.1 million.  At September 30, 2008, the weighted average
rate on long-term borrowings was 5.04% and the weighted average borrowing rate
on short-term borrowings was 2.58%.




Junior
Subordinated Deferrable Interest Debentures




Junior
subordinated deferrable interest debentures were issued in connection with the
Company’s issuance of trust preferred securities for gross proceeds of $3.0
million in the second quarter of 2003.  The $3.1 million balance of
junior subordinated deferrable interest debentures at September 30, 2008 was
unchanged from December 31, 2007.  The rate of interest paid on these
debentures was 6.16% at September 30, 2008 compared to 8.79% at December 31,
2007.


26
 Index


Capital
Resources




The
Company’s shareholders’ equity was $28.9 million at September 30, 2008 which
remained relatively unchanged from $28.9 million at December 31,
2007.  The retention of earnings of $1.4 million for the nine-months
ended September 30, 2008 was offset by the Company’s repurchase of its common
stock totaling $804,000 and a $556,000 increase in accumulated other
comprehensive loss on available-for-sale investment securities, a component of
shareholders’ equity.




Management
considers capital needs as part of its strategic planning
process.  The ability to obtain capital is dependent upon the capital
markets as well as the Company’s performance.  Management regularly
evaluates sources of capital and the timing required to meet its strategic
objectives.




The
following table summarizes the Company’s risk-based capital ratios as of
September 30, 2008 and December 31, 2007:





Capital and capital
      adequacy ratiosSeptember 30, 2008
            
            
            December 31, 2007(dollars
      in thousands)
            
            Amount
            
            
            Ratio
            
            
            Amount
            
            
            RatioLeverage
      RatioValley
      Commerce Bancorp
              and
      Subsidiary
            
            $
            32,511
            
            
            
            10.6
            %
            
            $
            31,927
            
            
            
            11.5
            %Minimum
      regulatory requirement
            
            $
            12,296
            
            
            
            4.0
            %
            
            $
            11,101
            
            
            
            4.0
            %Valley
      Business Bank
            
            $
            32,218
            
            
            
            10.5
            %
            
            $
            31,538
            
            
            
            11.4
            %Minimum
      requirement for “Well-
              Capitalized”
      institution
            
            $
            15,364
            
            
            
            5.0
            %
            
            $
            13,871
            
            
            
            5.0
            %Minimum
      regulatory requirement
            
            $
            12,291
            
            
            
            4.0
            %
            
            $
            11,097
            
            
            
            4.0
            %Tier 1 Risk-Based
      Capital RatioValley
      Commerce Bancorp
              and
      Subsidiary
            
            $
            32,511
            
            
            
            12.6
            %
            
            $
            31,927
            
            
            
            13.8
            %Minimum
      regulatory requirement
            
            $
            10,330
            
            
            
            4.0
            %
            
            $
            9,233
            
            
            
            4.0
            %Valley
      Business Bank
            
            $
            32,218
            
            
            
            12.5
            %
            
            $
            31,538
            
            
            
            13.7
            %Minimum
      requirement for “Well-
              Capitalized”
      institution
            
            $
            15,491
            
            
            
            6.0
            %
            
            $
            13,844
            
            
            
            6.0
            %Minimum
      regulatory requirement
            
            $
            10,327
            
            
            
            4.0
            %
            
            $
            9,230
            
            
            
            4.0
            %Total Risk-Based
      Capital RatioValley
      Commerce Bancorp
              and
      Subsidiary
            
            $
            35,363
            
            
            
            13.7
            %
            
            $
            33,684
            
            
            
            14.6
            %Minimum
      regulatory requirement
            
            $
            20,661
            
            
            
            8.0
            %
            
            $
            18,465
            
            
            
            8.0
            %Valley
      Business Bank
            
            $
            33,277
            
            
            
            12.9
            %
            
            $
            33,296
            
            
            
            14.4
            %Minimum
      requirement for “Well-
              Capitalized”
      institution
            
            $
            25,817
            
            
            
            10.0
            %
            
            $
            23,074
            
            
            
            10.0
            %Minimum
      regulatory requirement
            
            $
            20,654
            
            
            
            8.0
            %
            
            $
            18,459
            
            
            
            8.0
            %


On
October 3, 2008, President Bush signed into law the Emergency Economic
Stabilization Act of 2008 (the “EESA”).  Pursuant to the EESA, the
Secretary of the Treasury was authorized to establish the Troubled Asset Relief
Program (“TARP”) and to invest in financial institutions and purchase mortgages,
mortgage-backed securities and certain other financial instruments from
financial institutions, in an aggregate amount up to $700 billion, for the
purpose of stabilizing and providing liquidity to the U.S. financial
markets.  On October 14, 2008, the United States Department of the
Treasury (the “UST”) announced a Capital Purchase Program (“CPP”) to invest up
to $250 billion of this $700 billion amount in certain eligible U.S. banks,
thrifts and their holding companies in the form of non-voting, senior preferred
stock.  Bank




27
 Index


holding
companies and banks eligible to participate as a Qualifying Financial
Institution (“QFI”) in the CPP will be expected to comply with certain
standardized terms and conditions specified by the UST, including the
following:




·
            Submission
      of an application prior to November 14, 2008 to the QFI’s Federal banking
      regulator to obtain preliminary approval to participate in the
      CPP;


·
            If
      the QFI receives preliminary approval, it will have 30 days within which
      to submit final documentation and fulfill any outstanding
      requirements;


·
            The
      minimum amount of capital eligible for purchase by the UST under the CPP
      is 1 percent of the Total Risk-Weighted Assets of the QFI and the maximum
      is the lesser of (i) an amount equal to 3 percent of the Total
      Risk-Weighted Assets of the QFI or (ii) $25
  billion;


·
            Capital
      acquired by a QFI under the CPP will be accorded Tier 1 capital
      treatment;


·
            The
      preferred stock issued to the UST will be non-voting (except in the case
      of class votes), senior perpetual preferred stock that ranks senior to
      common stock and pari passu with existing preferred stock (except junior
      preferred stock);


·
            In
      addition to the preferred stock, the UST will be issued warrants to
      acquire shares of the QFI’s common stock equal in value to 15 percent of
      the amount of capital purchased by the
UST;


·
            Dividends
      on the preferred stock are payable to the UST at the rate of 5% per annum
      for the first 5 years and 9% per annum
  thereafter;


·
            Subject
      to certain exceptions and other requirements, no redemption of the
      preferred stock is permitted during the first 3
  years;


·
            Certain
      restrictions on the payment of dividends to shareholders of the QFI shall
      remain in effect while the preferred stock purchased by the UST is
      outstanding;


·
            Any
      repurchase of QFI shares will require the consent of the UST, subject to
      certain exceptions;


·
            The
      preferred shares are not subject to any contractual restrictions on
      transfer; and


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




The
Company and the Bank meet all of their capital requirements and the Bank is
considered well capitalized. The Company’s capital position and other liquidity
sources provide deposit customers with an important level of safety and
confidence in the Company that is essential in these uncertain economic times.
While the Company has applied for participation in the CPP, management is
continuing to evaluate its position in order to determine, if approved, whether
or not the proceeds made available would be drawn.


28
 Index


Liquidity




Liquidity
is the ability to provide funds to meet customers’ needs and to fund operations
in a timely and cost effective manner.  The Company has adopted
measures to ensure that the risk of loss due to inadequate liquidity remains at
a low level.  In particular, the Company adheres to a liquidity
contingency plan that requires management to take immediate action to improve
liquidity if it appears liquidity targets identified in Company policy may not
otherwise be fully achieved.




The
Company’s sources of liquidity include short-term borrowing arrangements with
FHLB and correspondent banks, available-for-sale securities, and amounts in the
Federal funds sold and cash and due from banks accounts on the balance
sheet.  Management constantly monitors its liquidity position in
relation to anticipated loan funding needs, branch expansions and other asset
acquisitions, deposit fluctuations, embedded options, off-balance sheet
arrangements and other factors that are likely to have a material effect on the
Company’s liquidity.





ITEM 3 – QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK





Not
applicable.





ITEM
4 – CONTROLS AND PROCEDURES





(a)
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES




Based on
their evaluation as of the end of the period covered by this Quarterly Report on
Form 10-Q, the Company’s principal executive officer and principal financial
officer have concluded that the Company’s disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934 (the “Exchange Act”)) are effective to ensure that information required to
be disclosed by the Company in reports that it files or submits under the
Exchange Act is recorded, processed, summarized and reported within the time
periods specified in Securities and Exchange Commission rules and
forms.





(b)
CHANGES IN INTERNAL CONTROLS




There was
no change in the Company’s internal control over financial reporting identified
in connection with the evaluation described in paragraph (a) above that occurred
during the Company’s last fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company’s internal control over
financial reporting.


29
 Index


PART
II – OTHER INFORMATION








ITEM
1 – LEGAL PROCEEDINGS





From time
to time, the Company is a party to claims and legal proceedings arising in the
ordinary course of business.  In the opinion of the Company’s
management, the amount of ultimate liability with respect to such proceedings
will not have a material adverse effect on the financial condition or results of
operations of the Company.




ITEM
1A – RISK FACTORS





In
addition to the other information set forth in this report, the factors
discussed in Part I, “Item 1A – Risk Factors” in the Company’s Annual Report on
Form 10-K for the year ended December 31, 2007 could materially affect its
business, financial condition or future results. The risks described in the
Company’s Annual Report on Form 10-K are not the only risks facing the Company.
Additional risks and uncertainties not currently known or currently deemed to be
immaterial also may materially adversely affect the Company’s business,
financial condition and/or operating results.




ITEM
2 – UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS





None.





ITEM
3 – DEFAULTS UPON SENIOR SECURITIES





None.





30
 Index


ITEM
4 – SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS





None.





ITEM
5 – OTHER INFORMATION





None.





ITEM
6 – EXHIBITS





An
Exhibit Index has been attached as part of this quarterly report and is
incorporated herein by reference.


31
 Index





SIGNATURES




In
accordance with the requirements of the Securities Exchange Act of 1934, the
Company caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.





VALLEY
      COMMERCE BANCORPDate:
      November 12, 2008
            By:
            /s/
      Donald A. GillesDonald
      A. GillesPresident
      and Chief Executive OfficerDate:
      November 12, 2008
            By:
            /s/Roy
      O. EstridgeRoy
      O. Estridge, Chief Financial
Officer





32
 Index


Exhibit Index








31.1
            Rule
      13a-14(a)/15d-14(a) Certification31.2
            Rule
      13a-14(a)/15d-14(a) Certification32.1
            Section
      1350 Certifications











33