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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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(Mark One)

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

For the quarterly period ended March 31, 2007

or



| ̈ | 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: 333-119800



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FIRST STATE
FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Florida                                                        |  | 65-0771145                          
|(State or other jurisdiction or incorporation or organization) |  | (I.R.S. Employer Identification No.)



|                                         |  |           
|---------------------------------------- |  | ----------
|22 S. Links Avenue, Sarasota, FL         |  | 34236     
|(Address of principal executive offices) |  | (Zip code)

941-929-9000

(Registrants telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)



---

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

Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ̈Accelerated filer  x    Non-accelerated filer ̈

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)    Yes ̈No  x

Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date.

As of May 7, 2007, the registrant had outstanding 5,875,500 shares of common stock.



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TABLE OF CONTENTS



|                                                                     |  |     
|-------------------------------------------------------------------- |  | ----
|                                                                     |  | PAGE
|PART I  FINANCIAL INFORMATION                                       |  |     
|                                                                     | 
|Item 1 Condensed Consolidated Financial Statements                  |  |     
|                                                                     | 
|Condensed Consolidated Balance Sheets                                |  | 1   
|                                                                     | 
|Condensed Consolidated Statements of Income                          |  | 2   
|                                                                     | 
|Condensed Consolidated Statements of Changes in Stockholders Equity |  | 3   
|                                                                     | 
|Condensed Consolidated Statements of Cash Flow                       |  | 4   
|                                                                     | 
|Condensed Notes to Consolidated Financial Statements                 |  | 5   
|                                                                     | 
|Item 2 Managements Discussion and Analysis                         |  | 8   
|                                                                     | 
|Item 3Quantitative and Qualitative Disclosures About Market Risk    |  | 16  
|                                                                     | 
|Item 4Controls and Procedures                                       |  | 16  
|                                                                     | 
|PART II  OTHER INFORMATION                                          |  |     
|                                                                     | 
|Item 1Legal Proceedings                                             |  | 17  
|                                                                     | 
|Item 1A Risk Factors                                                |  | 17  
|                                                                     | 
|Item 2Unregistered Sales of Equity Securities and Use of Proceeds   |  | 17  
|                                                                     | 
|Item 3Defaults Upon Senior Securities                               |  | 17  
|                                                                     | 
|Item 4Submission of Matters to Vote of Securities Holders           |  | 17  
|                                                                     | 
|Item 5Other Information                                             |  | 17  
|                                                                     | 
|Item 6Exhibits                                                      |  | 17  
|                                                                     | 
|Signatures                                                           |  | 18  



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FIRST STATE FINANCIAL CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

March 31, 2007 (unaudited) and December 31, 2006

(Dollar amounts in thousands except per share data)



|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                                                    |  | March 31,2007 |         |   | December 31,2006 |  
|ASSETS                                                                                                                                              |  |               |         |   |                  |   |         |  
|Cash and due from financial institutions                                                                                                            |  | $             | 5,428   |   |                  | $ | 6,427   |  
|Federal funds sold                                                                                                                                  |  |               | 25,065  |   |                  |   | 37,806  |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Cash and cash equivalents                                                                                                                           |  |               | 30,493  |   |                  |   | 44,233  |  
|Interest bearing deposits in other financial institutions                                                                                           |  |               | 583     |   |                  |   | 299     |  
|Securities, available for sale                                                                                                                      |  |               | 25,281  |   |                  |   | 24,860  |  
|Loans, net of allowance of $4,559 and $4,358                                                                                                        |  |               | 375,664 |   |                  |   | 372,747 |  
|Federal Home Loan Bank stock                                                                                                                        |  |               | 951     |   |                  |   | 880     |  
|Premise and equipment, net                                                                                                                          |  |               | 7,225   |   |                  |   | 4,558   |  
|Accrued interest and other assets                                                                                                                   |  |               | 6,770   |   |                  |   | 5,871   |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Total Assets                                                                                                                                        |  | $             | 446,967 |   |                  | $ | 453,448 |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|                                                                                                                                                    |  |              
|LIABILITIES and STOCKHOLDERS EQUITY                                                                                                                |  |               |         |   |                  |   |         |  
|Deposits                                                                                                                                            |  |               |         |   |                  |   |         |  
|Demand                                                                                                                                              |  | $             | 39,229  |   |                  | $ | 44,383  |  
|Interest-bearing checking                                                                                                                           |  |               | 16,830  |   |                  |   | 19,409  |  
|Money market                                                                                                                                        |  |               | 33,782  |   |                  |   | 30,508  |  
|Savings                                                                                                                                             |  |               | 24,582  |   |                  |   | 22,625  |  
|Time                                                                                                                                                |  |               | 277,240 |   |                  |   | 283,394 |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Total deposits                                                                                                                                      |  |               | 391,663 |   |                  |   | 400,319 |  
|Accrued interest payable and other liabilities                                                                                                      |  |               | 2,893   |   |                  |   | 1,602   |  
|Federal Home Loan Bank advances & other borrowings                                                                                                  |  |               | 3,001   |   |                  |   | 3,001   |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Total Liabilities                                                                                                                                   |  |               | 397,557 |   |                  |   | 404,922 |  
|Stockholders Equity                                                                                                                                |  |               |         |   |                  |   |         |  
|Common stock, $1 par value; 25,000,000 shares authorized; 5,875,500 shares issued at March 31, 2007 and 5,874,450 share issued at
December 31, 2006 |  |               | 5,875   |   |                  |   | 5,874   |  
|Additional paid-in capital                                                                                                                          |  |               | 32,008  |   |                  |   | 31,974  |  
|Retained earnings                                                                                                                                   |  |               | 11,669  |   |                  |   | 10,870  |  
|Accumulated other comprehensive income (loss)                                                                                                       |  |               | (142    | ) |                  |   | (192    | )
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Total Stockholders Equity                                                                                                                          |  |               | 49,410  |   |                  |   | 48,526  |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Total Liabilities and Stockholders Equity                                                                                                          |  | $             | 446,967 |   |                  | $ | 453,448 |  
|                                                                                                                                                    |  |               |         |   |                  |   |         |  

See Notes to Consolidated Financial Statements



1



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FIRST STATE FINANCIAL CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

For the Three Months Ended March 31, 2007 and 2006

(Unaudited)

(Dollar amounts in thousands except per share data)



|                                                     |  |      |           |      |   |          
|---------------------------------------------------- |  | ---- | --------- | ---- | - | ---------
|                                                     |  | 2007 |           | 2006
|Interest and Dividend Income                         |  |      |           |      |   |          
|Loans, including fees                                |  | $    | 8,050     |      | $ | 6,654    
|Taxable securities                                   |  |      | 183       |      |   | 163      
|Tax exempt securities                                |  |      | 86        |      |   | 59       
|Federal funds sold and other                         |  |      | 339       |      |   | 23       
|                                                     |  |      |           |      |   |          
|                                                     |  |      | 8,658     |      |   | 6,899    
|Interest expense                                     |  |      |           |      |   |          
|Deposits                                             |  |      | 4,040     |      |   | 2,523    
|Federal Home Loan Bank advances and other borrowings |  |      | 47        |      |   | 132      
|                                                     |  |      |           |      |   |          
|                                                     |  |      | 4,087     |      |   | 2,655    
|                                                     |  |      |           |      |   |          
|Net Interest Income                                  |  |      | 4,571     |      |   | 4,244    
|Provision for loan losses                            |  |      | 191       |      |   | 375      
|                                                     |  |      |           |      |   |          
|Net interest income after provision for loan losses  |  |      | 4,380     |      |   | 3,869    
|Non-interest income                                  |  |      |           |      |   |          
|Service charges and other fees                       |  |      | 313       |      |   | 296      
|Mortgage banking fees                                |  |      | 160       |      |   | 322      
|Other                                                |  |      | 23        |      |   | 38       
|                                                     |  |      |           |      |   |          
|                                                     |  |      | 496       |      |   | 656      
|Non-interest expense                                 |  |      |           |      |   |          
|Salaries and employee benefits                       |  |      | 1,841     |      |   | 1,639    
|Occupancy and equipment                              |  |      | 380       |      |   | 370      
|Data processing                                      |  |      | 156       |      |   | 139      
|Professional services                                |  |      | 89        |      |   | 50       
|Stationery and supplies                              |  |      | 41        |      |   | 40       
|Advertising and marketing                            |  |      | 79        |      |   | 98       
|Other                                                |  |      | 282       |      |   | 334      
|                                                     |  |      |           |      |   |          
|                                                     |  |      | 2,868     |      |   | 2,670    
|                                                     |  |      |           |      |   |          
|Income before income taxes                           |  |      | 2,008     |      |   | 1,855    
|Income tax expense                                   |  |      | 739       |      |   | 697      
|                                                     |  |      |           |      |   |          
|Net Income                                           |  | $    | 1,269     |      | $ | 1,158    
|                                                     |  |      |           |      |   |          
|Earnings per share                                   |  |      |           |      |   |          
|Basic                                                |  | $    | 0.22      |      | $ | 0.20     
|Diluted                                              |  | $    | 0.21      |      | $ | 0.20     
|Average common shares outstanding                    |  |      |           |      |   |          
|Basic                                                |  |      | 5,874,999 |      |   | 5,863,265
|Diluted                                              |  |      | 5,916,499 |      |   | 5,910,472
|Dividends per share                                  |  | $    | 0.08      |      | $ | 0.06     

See Notes to Condensed Consolidated Financial Statements



2



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FIRST STATE FINANCIAL CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES

IN STOCKHOLDERS EQUITY

For the
Three Months Ended March 31, 2007 and 2006

(Unaudited)

(Dollar amounts in thousands except per share data)



|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|---------------------------------------------------------------------------------------------------- |  | --------- |  | ----------- | ----- | ------------------------ | - | ---------------- |  | - | ------------------------------------- | - |  | ----- | ---- | - |  | - | ------ | -
|                                                                                                     |  | Shares    |  | CommonStock |       | AdditionalPaid-inCapital |   | RetainedEarnings |  |   | Accum. OtherComprehensiveIncome(Loss) |   |  | Total |     
|Balance at December 31, 2005                                                                         |  | 5,863,265 |  | $           | 5,863 |                          | $ | 31,763           |  | $ | 7,231                                 |   |  | $     | (373 | ) |  | $ | 44,484 |  
|Comprehensive income:                                                                                |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Net income                                                                                           |  |           |  |             |       |                          |   |                  |  |   | 1,158                                 |   |  |       |      |   |  |   | 1,158  |  
|Change in net unrealized gain (loss) on investment securities available for sale, net of tax effects |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       | (22  | ) |  |   | (22    | )
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Total Comprehensive Income                                                                           |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   | 1,136  |  
|Stock-based compensation                                                                             |  |           |  |             |       |                          |   | 39               |  |   |                                       |   |  |       |      |   |  |   | 39     |  
|Exercise of stock options                                                                            |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Cash dividend, $0.06 per share                                                                       |  |           |  |             |       |                          |   |                  |  |   | (352                                  | ) |  |       |      |   |  |   | (352   | )
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Balance at March 31, 2006                                                                            |  | 5,863,265 |  | $           | 5,863 |                          | $ | 31,802           |  | $ | 8,037                                 |   |  | $     | (395 | ) |  | $ | 45,307 |  
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Balance at December 31, 2006                                                                         |  | 5,874,450 |  | $           | 5,874 |                          | $ | 31,974           |  | $ | 10,870                                |   |  | $     | (192 | ) |  | $ | 48,526 |  
|Comprehensive income:                                                                                |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Net income                                                                                           |  |           |  |             |       |                          |   |                  |  |   | 1,269                                 |   |  |       |      |   |  |   | 1,269  |  
|Change in net unrealized gain (loss) on investment securities available for sale, net of tax effects |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       | 50   |   |  |   | 50     |  
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Total Comprehensive Income                                                                           |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   | 1,318  |  
|Stock-based compensation                                                                             |  |           |  |             |       |                          |   | 23               |  |   |                                       |   |  |       |      |   |  |   | 23     |  
|Exercise of stock options                                                                            |  | 1,050     |  |             | 1     |                          |   | 11               |  |   |                                       |   |  |       |      |   |  |   | 12     |  
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Cash dividend, $0.08 per share                                                                       |  |           |  |             |       |                          |   |                  |  |   | (470                                  | ) |  |       |      |   |  |   | (470   | )
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  
|Balance at March 31, 2007                                                                            |  | 5,875,500 |  | $           | 5,875 |                          | $ | 32,008           |  | $ | 11,669                                |   |  | $     | (142 | ) |  | $ | 49,410 |  
|                                                                                                     |  |           |  |             |       |                          |   |                  |  |   |                                       |   |  |       |      |   |  |   |        |  

See Notes to Condensed Consolidated Financial Statements



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FIRST STATE FINANCIAL CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW

For the Three Months Ended March 31, 2007 and 2006

(Unaudited)

(Dollar amounts in thousands)



|                                                                          |  |      |         |   |      |   |         |  
|------------------------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | -
|                                                                          |  | 2007 |         |   | 2006 |  
|Cash flows from operating activities:                                     |  |      |         |   |      |   |         |  
|Net income                                                                |  | $    | 1,269   |   |      | $ | 1,158   |  
|Adjustments to reconcile net income to net cash from operating activities |  |      |         |   |      |   |         |  
|Provision for loan losses                                                 |  |      | 191     |   |      |   | 375     |  
|Depreciation                                                              |  |      | 105     |   |      |   | 60      |  
|Net amortization of securities                                            |  |      |        |   |      |   | 15      |  
|Stock compensation expense                                                |  |      | 23      |   |      |   | 39      |  
|Net change in:                                                            |  |      |         |   |      |   |         |  
|Other assets                                                              |  |      | (930    | ) |      |   | (2,211  | )
|Accrued expenses and other liabilities                                    |  |      | 1,291   |   |      |   | 410     |  
|                                                                          |  |      |         |   |      |   |         |  
|Net cash from operating activities                                        |  |      | 1,949   |   |      |   | (154    | )
|Cash flows from investing activities:                                     |  |      |         |   |      |   |         |  
|Net change in time deposits                                               |  |      | (284    | ) |      |   | 162     |  
|Available-for-sale securities:                                            |  |      |         |   |      |   |         |  
|Maturities, prepayments and calls                                         |  |      | 585     |   |      |   | 553     |  
|Purchases                                                                 |  |      | (926    | ) |      |   | (3,724  | )
|Loan originations and payments, net                                       |  |      | (3,108  | ) |      |   | (23,798 | )
|Net sale of FHLB stock                                                    |  |      | (71     | ) |      |   | (152    | )
|Net change in premise and equipment                                       |  |      | (2,772  | ) |      |   | (98     | )
|                                                                          |  |      |         |   |      |   |         |  
|Net cash from investing activities                                        |  |      | (6,576  | ) |      |   | (27,057 | )
|Cash flows from financing activities:                                     |  |      |         |   |      |   |         |  
|Net change in deposits                                                    |  |      | (8,655  | ) |      |   | 25,126  |  
|Net change in short-term borrowing                                        |  |      |        |   |      |   | 2,623   |  
|Proceeds from exercise of stock options                                   |  |      | 12      |   |      |   |        |  
|Cash dividend paid                                                        |  |      | (470    | ) |      |   | (352    | )
|                                                                          |  |      |         |   |      |   |         |  
|Net cash from financing activities                                        |  |      | (9,113  | ) |      |   | 27,397  |  
|Net change in cash and cash equivalents                                   |  |      | (13,740 | ) |      |   | 186     |  
|Beginning cash and cash equivalents                                       |  |      | 44,233  |   |      |   | 6,054   |  
|                                                                          |  |      |         |   |      |   |         |  
|Ending cash and cash equivalents                                          |  | $    | 30,493  |   |      | $ | 6,240   |  
|                                                                          |  |      |         |   |      |   |         |  
|Supplemental cash flow information                                        |  |      |         |   |      |   |         |  
|Interest paid                                                             |  | $    | 4,108   |   |      | $ | 2,628   |  
|Income taxes paid                                                         |  |      | 8       |   |      |   | 230     |  

See Notes to Condensed Consolidated Financial Statements



4



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FIRST STATE FINANCIAL CORPORATION

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2007

(Unaudited)

NOTE 1  INTERIM FINANCIAL STATEMENTS

These
unaudited financial statements were prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. As such they do not include all of the information and footnotes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary to comply with Regulation S-X were included. The operating results for the three months ended
March 31, 2007 are not necessarily indicative of the results that may be expected for the full year of 2007.

NOTE 2  NEW ACCOUNTING
STANDARDS

In February 2007 the Financial Accounting Standards Board issued FAS 159, The Fair Value Option for Financial Assets and Financial
Liabilities, which expands the scope of what companies may carry at fair value. Statement 159 offers an irrevocable option to carry the vast majority of financial assets and liabilities at fair value, (the fair value option, or FVO). The
adoption of the fair value option is recorded as a cumulative-effect adjustment to the opening balance of retained earnings. Upon adoption, the difference between the carrying amount and the fair value of the items chosen is removed from the balance
sheet and included in the cumulative-effect adjustment. Subsequent changes in fair value are recorded through the income statement. The new statement is effective for fiscal years beginning after November 15, 2007. The Company has decided not
to early adopt FAS 159 and to continue to record certain financial assets at fair value using another measurement basis permitted by generally accepted accounting principles.

On September 15, 2006, the FASB issued a statement to address fair value measurements. Statement 157, Fair Value Measurements, which requires changes to how certain instruments are measured, both
those for which fair value is elected and those where generally accepted accounting principles (GAAP) requires use of fair value. The Company has not yet determined the effect of implementing this pronouncement, which is effective for fiscal years
ending after January 1, 2008.

The Company adopted FASB Interpretation 48, Accounting for Uncertainty in Income Taxes (FIN 48), as of
January 1, 2007. A tax position is recognized as a benefit only if it is more likely than not that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is
the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the more likely than not test, no tax benefit is recorded. The adoption had no affect on the Companys
financial statements.

The Company and its subsidiaries are subject to U.S. federal income tax as well as income tax of the state of Florida. The Company
is no longer subject to examination by taxing authorities for years before 2002. The Company does not expect the total amount of unrecognized tax benefits to significantly increase in the next twelve months.

The Company recognizes interest related to income tax matters as interest expense and penalties related to income tax matters as other expense. The Company did not have
any amounts accrued for interest and penalties at January 1, 2007.



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NOTE 3  STOCK-BASED COMPENSATION

First State Financial Corporations 2004 Stock Plan, which is stockholder approved, permits the grant of stock options for up to 500,000 shares of common stock. Under the terms of the plan, the option price is
not less than the fair market value of the common stock on the date of grant. Stock options generally vest over five years and have a ten year contractual term. Certain awards provide for accelerated vesting if there is a change in control (as
defined in the plan).

The fair value of each option award is estimated on the date of grant using the Black-Scholes option-pricing model. Expected term is
based on a calculation provided for by the Securities and Exchange Commissions Staff Accounting Bulletin 107 which recognizes a lack of historical data and offers a simplified method of computing expected term. The risk-free rate of the
award is based on the U.S. Treasury yield curve in effect at the time of grant.

During the quarter ended March 31, 2007, the Company granted 24,000
stock options. The fair value of the options granted in the first quarter of 2007 was $4.98 per option. This value was estimated as of the date of the grant using the following assumptions: dividend yield 1.71%, expected volatility 25.213%,
risk-free interest rate 4.77%, and an expected life of 6.5 years. 28,000 stock options were granted during the first quarter of 2006. The stock options were granted by the Compensation Committee to members of executive management based on the
Banks achievement of its earnings and growth plan for the prior fiscal year and as a long-term incentive towards the Banks long-term objectives.

During the quarter ended March 31, 2007, 6,400 options vested and 1,050 options were exercised. During the previous year quarter ended March 31, 2006, 1,600 options vested and no options were exercised.

A summary of share option activity under the Plan as of March 31, 2007 is as follows:



|                                     |  |                         |  |                              |       |                                                     |      |                                        |   |    
|------------------------------------ |  | ----------------------- |  | ---------------------------- | ----- | --------------------------------------------------- | ---- | -------------------------------------- | - | ---
|                                     |  | StockOptionsOutstanding |  | WeightedAverageExercisePrice |       | Weighted-AverageRemainingContractualLife (in years) |      | AggregateIntrinsicValue (in thousands)
|Options outstanding, January 1, 2007 |  | 171,615                 |  | $                            | 10.62 |                                                     |      |                                        |   |    
|Granted                              |  | 24,000                  |  |                              | 16.95 |                                                     |      |                                        |   |    
|Exercised                            |  | 1,050                   |  |                              | 8.45  |                                                     |      |                                        |   |    
|Forfeited or expired                 |  | 4,000                   |  |                              | 4.00  |                                                     |      |                                        |   |    
|                                     |  |                         |  |                              |       |                                                     |      |                                        |   |    
|Options outstanding, March 31, 2007  |  | 190,565                 |  | $                            | 11.83 |                                                     | 6.68 |                                        | $ | 954
|                                     |  |                         |  |                              |       |                                                     |      |                                        |   |    
|Options exercisable, March 31, 2007  |  | 58,825                  |  | $                            | 8.47  |                                                     | 5.81 |                                        | $ | 492
|                                     |  |                         |  |                              |       |                                                     |      |                                        |   |    

For the quarter ended March 31, 2007, $23 thousand in compensation cost related to the Companys stock
option plan was recorded in net income. As of March 31, 2007, $240 thousand in unrecognized compensation costs remained to be recognized over a weighted-average period of 2.7 years. All stock option compensation costs recognized in the first
three months of 2007 related to incentive stock options. Accordingly, there is no tax benefit to disclose. Also, see Note 5  Subsequent Events for share option activity that occurred after the quarter ended March 31, 2007.



6



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##### Table of Contents

NOTE 4  LOANS

Major classifications of loans are as follows (in thousands):



|                              |  |               |         |   |                  |   |         |  
|----------------------------- |  | ------------- | ------- | - | ---------------- | - | ------- | -
|                              |  | March 31,2007 |         |   | December 31,2006 |  
|Commercial                    |  | $             | 62,843  |   |                  | $ | 59,506  |  
|Real estate:                  |  |               |         |   |                  |   |         |  
|Residential                   |  |               | 56,207  |   |                  |   | 58,863  |  
|Commercial                    |  |               | 197,743 |   |                  |   | 194,992 |  
|Construction                  |  |               | 49,718  |   |                  |   | 51,426  |  
|Consumer and other            |  |               | 15,117  |   |                  |   | 13,724  |  
|                              |  |               |         |   |                  |   |         |  
|                              |  |               | 381,628 |   |                  |   | 378,511 |  
|Less: deferred loan fees, net |  |               | (1,405  | ) |                  |   | (1,406  | )
|allowance for loan losses     |  |               | (4,559  | ) |                  |   | (4,358  | )
|                              |  |               |         |   |                  |   |         |  
|Total loans, net              |  | $             | 375,664 |   |                  | $ | 372,747 |  
|                              |  |               |         |   |                  |   |         |  

Transactions in the allowance for loan losses are as follows (in thousands):



|                                |  |                                    |       |   |               |   |       |  
|------------------------------- |  | ---------------------------------- | ----- | - | ------------- | - | ----- | -
|                                |  | Activity for the threemonths ended |      
|                                |  | March 31,2007                      |       |   | March 31,2006 |  
|Balance, beginning of period    |  | $                                  | 4,358 |   |               | $ | 3,397 |  
|Provision charged to operations |  |                                    | 191   |   |               |   | 375   |  
|Loans charged off               |  |                                    | (4    | ) |               |   | (228  | )
|Recoveries                      |  |                                    | 14    |   |               |   | 8     |  
|                                |  |                                    |       |   |               |   |       |  
|Balance, end of period          |  | $                                  | 4,559 |   |               | $ | 3,552 |  
|                                |  |                                    |       |   |               |   |       |  

Impaired loans were as follows (in thousands):



|                                                  |  |                                           |        |                  |   |       
|------------------------------------------------- |  | ----------------------------------------- | ------ | ---------------- | - | ------
|                                                  |  | Year-to-date activity for theperiod ended
|                                                  |  | March 31,2007                             |        | December 31,2006
|Loans with no allocated allowance for loan losses |  | $                                         | 29     |                  | $ | 8,295 
|Loans with allocated allowance for loan losses    |  |                                           | 11,771 |                  |   | 2,403 
|                                                  |  |                                           |        |                  |   |       
|                                                  |  | $                                         | 11,800 |                  | $ | 10,698
|                                                  |  |                                           |        |                  |   |       
|Amount of the allowance for loan losses allocated |  | $                                         | 2,258  |                  | $ | 1,348 
|                                                  |  |                                           |        |                  |   |       

NOTE 5  SUBSEQUENT EVENTS

As announced on April 13, 2007, effective April 9, 2007, Corey J. Coughlin resigned as a Director and as President and Chief Executive Officer of the Registrant and of First State Bank to pursue other
business opportunities. The Registrant appointed John E. Jed Wilkinson as President and Chief Executive Officer and Director of the Registrant and of First State Bank. As severance compensation the Registrant will pay Mr. Coughlin
$215 thousand, which will be recognized as an expense during the second quarter of 2007.

Mr. Coughlin has 80,000 stock options outstanding of which
44,000 are vested and the remaining 36,000 stock options are unvested and considered forfeited as of April 9, 2007. Mr. Coughlin has 90 days from the date of his resignation to exercise his vested stock options. The forfeited options will
reduce the Companys unrecognized compensation costs at March 31, 2007 of $240 thousand to be recognized over a period of 2.7 years to 153 thousand to be recognized over a period of 2.6 years.



7



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##### Table of Contents

|Item 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------

The following commentary presents managements discussion and analysis of First State Financial Corporations financial condition and results of operations for the three months ended March 31, 2007. It
should be read in conjunction with the unaudited Consolidated Financial Statement and Notes included elsewhere in this report and the audited Consolidated Financial Statements and Notes contained in the Corporations 2006 Annual Report on Form
10-K. In addition the following discussion and analysis should be read together with Managements Discussion and Analysis of Financial Condition and Results of Operations contained in the Corporations 2006 Annual Report on
Form 10-K, which contains important additional information that is necessary to understand the Corporation and its financial condition and results of operations for the periods covered by this report.

As used in this report, the terms we, our, First State Financial, company, and corporation mean First State
Financial Corporation and its subsidiary unless the context indicates otherwise. The terms bank and First State Bank mean First State Bank. We intend for this discussion to provide information that will assist in
understanding our financial statements. We will discuss the changes in certain key items in those financial statements and the primary factors that accounted for those changes.

OVERVIEW

We are the parent of First State Bank, a community bank headquartered in Sarasota, Florida with offices in
Sarasota and Pinellas counties. The Bank is committed to growing by:



| |  |  | Providing customers with access to local executives;
| | - |  | ----------------------------------------------------



| |  |  | Pursuing commercial lending opportunities with small- to mid-sized businesses;
| | - |  | ------------------------------------------------------------------------------



| |  |  | Developing new products and services to generate additional revenue sources;
| | - |  | ----------------------------------------------------------------------------



| |  |  | Cross-selling products and services to existing customers;
| | - |  | ----------------------------------------------------------



| |  |  | Adhering to sound credit standards and maintaining the continued quality of assets; and
| | - |  | ---------------------------------------------------------------------------------------



| |  |  | Acquiring and developing new branches within our geographical area.
| | - |  | -------------------------------------------------------------------

Some of the key developments and achievements since the beginning of 2007 include:



| |  |  | 1% increase in net loan production (new loans less repayments);
| | - |  | ---------------------------------------------------------------



| |  |  | Loan-to-deposit ratio of 97.4% as of March 31, 2007;
| | - |  | ----------------------------------------------------



| |  |  | The purchase of land located in Venice for a future branch scheduled for 2008;
| | - |  | ------------------------------------------------------------------------------



| |  |  | New leadership positions were created to head each Division of the Bank. Mike Worthington, was promoted to President of the Sarasota County Division and David
Ruppel, was promoted to President of the Pinellas County Division. Mr. Worthington and Mr. Ruppel are both accomplished banking executives with 20 plus years of experience each;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | In April, 2007 Corey J. Coughlin resigned as Director and President and Chief Executive Officer of the Company and of First State Bank, to pursue other business
opportunities; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | John E. Jed Wilkinson was appointed as President, Chief Executive Officer and a Director of the Company and of First State Bank. Mr. Wilkinson has
been with the Company since November 2002, serving most recently as Executive Vice-President and Chief Operating Officer of First State Bank. Prior to joining the Company, Mr. Wilkinson served as Executive Vice-President and Chief Operating
Officer of South Trust Bank from 1987 to 2002 as part of his 16-year tenure with them.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We continue to face a variety of challenges and
opportunities inherent within the banking industry which are characterized by the uncertainty in the timing of interest rate changes, credit quality and intense competition. With the reorganization of management, the Company is positioning to better
serve its customers in the Pinellas and Sarasota markets. As part of our strategic plan the management team and employees will continue to build upon our past successes by building customer relationships, monitoring credit quality, maintaining our
margin and expanding our presence within our geographical market.



8



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##### Table of Contents

FORWARD-LOOKING STATEMENTS

This Managements Discussion and Analysis of Financial Condition and Results of Operations may contain forward-looking statements that may be identified by the use of words like believe, expect,
anticipate, and project. Forward-looking statements reflect our good-faith evaluation of information currently available. However, such statements are dependent on and can be influenced by, a number of external variables over
which we have little or no control. These variables include:



| |  |  | the effect of future economic conditions;
| | - |  | -----------------------------------------



| |  |  | governmental monetary and fiscal policies;
| | - |  | ------------------------------------------



| |  |  | legislative and regulatory changes;
| | - |  | -----------------------------------



| |  |  | the risks of changes in interest rates on the level and composition of deposits, loan demand, and the values of loan collateral;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------



| |  |  | interest rate risks; and
| | - |  | ------------------------



| |  |  | the effects of competition from other commercial banks, thrifts, consumer financial companies, and other financial institutions operating in our market area and
elsewhere.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Forward-looking statements are not, and should not be relied upon as a guaranty of future performance or results. As a
result, actual outcomes and results may differ materially from those expressed in forward-looking statements. We undertake no obligation to update or revise forward-looking statements.



9



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##### Table of Contents

RESULTS OF OPERATIONS

The table below presents, for the periods indicated, amounts included in our Condensed Consolidated Statements of Income. The percentage change is calculated using actual amounts rounded to the nearest thousand and
rounded to the nearest whole percentage.



|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  
|----------------------------------- |  | ---------------------------- | ----- | ---- | - | ------ |  | - | ----- | - |  | --- | -
|                                    |  | Three months ended March 31, |      
|                                    |  |                              |       |      |   | change | 
|(Dollars in thousands)              |  | 2007                         |       | 2006 |   | $      |  |   | %     |  
|Interest income                     |  | $                            | 8,658 |      | $ | 6,899  |  | $ | 1,759 |   |  | 25  | %
|Interest expense                    |  |                              | 4,087 |      |   | 2,655  |  |   | 1,432 |   |  | 54  | %
|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  
|Net interest income                 |  |                              | 4,571 |      |   | 4,244  |  |   | 327   |   |  | 8   | %
|Provision for loan losses           |  |                              | 191   |      |   | 375    |  |   | (184  | ) |  | -49 | %
|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  
|Net interest income after provision |  |                              | 4,380 |      |   | 3,869  |  |   | 511   |   |  | 13  | %
|Non-interest income                 |  |                              | 496   |      |   | 656    |  |   | (160  | ) |  | -24 | %
|Non-interest expense                |  |                              | 2,868 |      |   | 2,670  |  |   | 198   |   |  | 7   | %
|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  
|Income before income taxes          |  |                              | 2,008 |      |   | 1,855  |  |   | 153   |   |  | 8   | %
|Income tax expense                  |  |                              | 739   |      |   | 697    |  |   | 42    |   |  | 6   | %
|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  
|Net income                          |  | $                            | 1,269 |      | $ | 1,158  |  | $ | 111   |   |  | 10  | %
|                                    |  |                              |       |      |   |        |  |   |       |   |  |     |  

The following average balance sheet presents certain information related to our average yields on assets and
average cost of liabilities. Such yields have been derived by dividing income or expenses by the average balance of the corresponding assets or liabilities and the calculated year to date rate is then annualized.



|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|---------------------------------------- |  | ------------------------------------ | ------- | -------------- | ---- | ------------ |  | ---- | --------------- |  | -------------- | ------- | ------------ | - | ----- |  | ---- | -
|                                         |  | For the three months ended March 31, |        
|                                         |  | 2007                                 |         |                | 2006 |             
|(Dollars in thousands)                   |  | AverageBalances                      |         | Income/Expense |      | Yields/Rates |  |      | AverageBalances |  | Income/Expense |         | Yields/Rates |  
|Assets:                                  |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Earning assets:                          |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Loans (1)                                |  | $                                    | 372,964 |                | $    | 8,050        |  | 8.75 | %               |  | $              | 342,473 |              | $ | 6,654 |  | 7.88 | %
|Investment securities, taxable           |  |                                      | 16,413  |                |      | 183          |  | 4.53 | %               |  |                | 15,747  |              |   | 163   |  | 4.19 | %
|Investment securities, non-taxable (2)   |  |                                      | 8,517   |                |      | 117          |  | 5.57 | %               |  |                | 5,611   |              |   | 80    |  | 5.83 | %
|Other                                    |  |                                      | 27,316  |                |      | 339          |  | 5.03 | %               |  |                | 2,078   |              |   | 23    |  | 4.40 | %
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Total interest earning assets            |  |                                      | 425,210 |                |      | 8,689        |  | 8.29 | %               |  |                | 365,909 |              |   | 6,920 |  | 7.67 | %
|Non-interest earning assets              |  |                                      | 16,417  |                |      |              |  |      |                 |  |                | 15,541  |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Total assets                             |  | $                                    | 441,627 |                |      |              |  |      |                 |  | $              | 381,450 |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Liabilities:                             |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Interest bearing liabilities:            |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|NOW accounts                             |  | $                                    | 16,806  |                | $    | 54           |  | 1.30 | %               |  | $              | 16,415  |              | $ | 34    |  | 0.83 | %
|Money market                             |  |                                      | 31,420  |                |      | 285          |  | 3.68 | %               |  |                | 40,851  |              |   | 301   |  | 2.99 | %
|Savings                                  |  |                                      | 21,703  |                |      | 185          |  | 3.46 | %               |  |                | 21,145  |              |   | 125   |  | 2.39 | %
|Time deposits                            |  |                                      | 279,930 |                |      | 3,516        |  | 5.09 | %               |  |                | 205,186 |              |   | 2,063 |  | 4.08 | %
|Borrowings                               |  |                                      | 3,001   |                |      | 47           |  | 6.34 | %               |  |                | 10,697  |              |   | 132   |  | 5.02 | %
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Total interest bearing liabilities       |  |                                      | 352,860 |                |      | 4,087        |  | 4.70 | %               |  |                | 294,294 |              |   | 2,655 |  | 3.66 | %
|Demand deposits                          |  |                                      | 36,788  |                |      |              |  |      |                 |  |                | 40,057  |              |   |       |  |      |  
|Other non-interest bearing liabilities   |  |                                      | 2,882   |                |      |              |  |      |                 |  |                | 1,984   |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Total non-interest bearing liabilities   |  |                                      | 39,670  |                |      |              |  |      |                 |  |                | 42,041  |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Stockholders equity                     |  |                                      | 49,097  |                |      |              |  |      |                 |  |                | 45,115  |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Total liabilities & stockholders equity |  | $                                    | 441,627 |                |      |              |  |      |                 |  | $              | 381,450 |              |   |       |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Net Interest Income                      |  |                                      |         |                | $    | 4,602        |  |      |                 |  |                |         |              | $ | 4,265 |  |      |  
|                                         |  |                                      |         |                |      |              |  |      |                 |  |                |         |              |   |       |  |      |  
|Net Interest Margin (3)                  |  |                                      |         |                |      |              |  | 4.39 | %               |  |                |         |              |   |       |  | 4.73 | %

---

|(1) | Average loans include nonperforming loans
|--- | -----------------------------------------

|(2) | On a fully tax-equivalent basis using a 34% rate for Federal income tax purposes, reduced by the non-deductible portion of interest expense.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Net interest margin is net interest income divided by average total interest earning assets
|--- | -------------------------------------------------------------------------------------------



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##### Table of Contents

The table below details the components of the changes in net interest income for the three months ended March 31,
2007 and March 31, 2006. For each major category of interest earning assets and interest bearing liabilities, information is provided with respect to changes due to average volumes, changes due to rates, and with the changes in both volumes and
rates allocated to these two categories based on the proportionate absolute changes in each category.



|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|---------------------------------------- |  | --------------------------------------------------------- | ---- | - | ------------ | - | --- | ----------------------- |  | - | ----- | -
|                                         |  | For the three months ended March 31, 2007Compared to 2006 |     
|                                         |  | Increase (decrease) due tochange in                       |      |   |              |  
|(Dollars in thousands)                   |  | AverageVolume                                             |      |   | Average Rate |   |     | Net Increase (Decrease) | 
|Increase (decrease) in interest income:  |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|Loans                                    |  | $                                                         | 622  |   |              | $ | 774 |                         |  | $ | 1,396 |  
|Investment securities, taxable           |  |                                                           | 7    |   |              |   | 13  |                         |  |   | 20    |  
|Investment securities, non-taxable (1)   |  |                                                           | 41   |   |              |   | (4  | )                       |  |   | 37    |  
|Other                                    |  |                                                           | 313  |   |              |   | 3   |                         |  |   | 316   |  
|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|Total interest income                    |  |                                                           | 983  |   |              |   | 786 |                         |  |   | 1,769 |  
|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|Increase (decrease) in interest expense: |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|NOW accounts                             |  |                                                           | 1    |   |              |   | 19  |                         |  |   | 20    |  
|Money market                             |  |                                                           | (78  | ) |              |   | 62  |                         |  |   | (16   | )
|Savings                                  |  |                                                           | 3    |   |              |   | 56  |                         |  |   | 59    |  
|Time deposits                            |  |                                                           | 862  |   |              |   | 591 |                         |  |   | 1,453 |  
|Borrowings                               |  |                                                           | (113 | ) |              |   | 29  |                         |  |   | (84   | )
|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|Total interest expense                   |  |                                                           | 675  |   |              |   | 757 |                         |  |   | 1,432 |  
|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  
|Total change in net interest income      |  | $                                                         | 308  |   |              | $ | 29  |                         |  | $ | 337   |  
|                                         |  |                                                           |      |   |              |   |     |                         |  |   |       |  

---

|(1) | On a fully tax-equivalent basis using a 34% rate for Federal income tax purposes, reduced by the non-deductible portion of interest expense.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------

FOR THE QUARTER ENDED March 31, 2007:

NET INTEREST INCOME

Net interest income is the most significant component of our earnings. Net interest income is comprised of interest income, and loan-related fees, less
interest expense. Net interest income is affected by numerous factors, including the level, pricing, mix and maturity of earning assets and interest-bearing liabilities, as well as interest rate fluctuations. For purposes of this discussion, net
interest income has been adjusted to a fully tax-equivalent basis which restates tax-exempt income to an amount that would yield the same after-tax income had the income been subject to income taxes.

Net interest income on a fully tax-equivalent basis for the first quarter of 2007, was $4.6 million compared to $4.3 million for the comparable period of 2006. This
represents a $337 thousand increase or 8%. The increases in interest income and interest expense for the first quarter of 2007 were driven by a combination of volume growth and an increase in yields. Average earning assets grew 16.2% for the first
quarter of 2007 over the first quarter of 2006, from $365.9 million to $425.2 million, with the yield on average earning assets increasing 62 basis points. Average interest bearing liabilities (deposits and borrowings) grew 20.0% for the first
quarter of 2007 over the first quarter of 2006, from $294.3 million to $352.9 million, with the cost increasing 104 basis points.

NON-INTEREST INCOME

Non-interest income for the first quarter of 2007 was $496 thousand. For the same period of 2006, non-interest income was $656 thousand. Mortgage
banking fees decreased $162 thousand, from $322 thousand in the first quarter of 2006 to $160 thousand in the first quarter of 2007. This decrease is due to the decrease in the volume of transactions closed, as the result of changes in the
marketplace, as the activity in the residential real estate market has reduced from that in the first quarter of 2006.



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##### Table of Contents

NON-INTEREST EXPENSE

For the first quarter of 2007, non-interest expense was $2.87 million, an increase of $198 thousand over the first quarter of 2006. Salaries and Employee Benefits represented the largest increase in non-interest expense. This item increased
$202 thousand in the first three months of the year versus the first three months of 2006. Of that increase 90.4% was for salaries and 9.6% for benefits. This is a result of an increase in staff and officer positions as well as normal salary
increases. The number of full-time equivalent employees increased from 95 as of March 31, 2006 to 108.5 as of the March 31, 2007. Stock-based compensation of $23 thousand was recognized during the first quarter of 2007. Management has
controlled the remainder of overhead expenses within the budgeted annual operating plan, as the slight increases in professional services, data processing and occupancy and equipment were offset with decreases in advertising and other miscellaneous
expenses.

Non-interest expenses for the remainder of 2007 are expected to fluctuate when compared to comparable periods of 2006. During 2006 we incurred
consulting fees of $93 thousand for the initial documentation of controls to comply with the Sarbanes-Oxley Act; management expects related Sarbanes-Oxley costs for 2007 to be less. As part of the Companys strategic plan managements
objective is to continue to grow the Bank in assets, profitability and branch locations. Management strives to achieve this objective through: 1) the recent appointment of market area Presidents, allowing each President to operate more effectively
and efficiently with the employees, customers and potential customers of their division; 2) organic growth, as two branches are scheduled to open in 2007 in the cities of Belleair and Clearwater (in 2008 a third location is scheduled to open in
Venice); and 3) exploring opportunities to acquire suitable banks in our marketplace. As the Company begins to invest in our future locations, margins may compress until those branches are fully established. Additionally, with the resignation of the
President and Chief Executive Officer subsequent to the end of the first quarter, as discussed in Note 5  Subsequent Events, severance compensation of $215 thousand will be paid out and recognized during the second quarter of 2007.

INCOME TAXES

For the quarter ended March 31,
2007 and 2006, the Company recorded income tax expense of $739 thousand and $697 thousand, respectively. Accordingly, our effective tax rates were 36.8% and 37.6% for the first quarter of 2007 and 2006, respectively. The determination of effective
rates reflects items which are not taxed for income tax purposes, primarily tax-exempt interest income.



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FINANCIAL CONDITION ANALYSIS



|                                                         |  |               |         |   |                  |   |         |        |  |    |        |   |  |     |  
|-------------------------------------------------------- |  | ------------- | ------- | - | ---------------- | - | ------- | ------ |  | -- | ------ | - |  | --- | -
|                                                         |  |               |         |   |                  |   |         | change | 
|(Dollars in thousands)                                   |  | March 31,2007 |         |   | December 31,2006 |   |         | $      |  |    | %      |  
|Cash                                                     |  | $             | 30,493  |   |                  | $ | 44,233  |        |  | ($ | 13,740 | ) |  | -31 | %
|Interest bearing deposit in other financial institutions |  |               | 583     |   |                  |   | 299     |        |  |    | 284    |   |  | 95  | %
|Investments                                              |  |               | 25,281  |   |                  |   | 24,860  |        |  |    | 421    |   |  | 2   | %
|Loans  gross                                            |  |               | 381,628 |   |                  |   | 378,511 |        |  |    | 3,117  |   |  | 1   | %
|Net deferred fees                                        |  |               | (1,405  | ) |                  |   | (1,406  | )      |  |    | 1      |   |  | 0.1 | %
|Allowance for loan loss reserve                          |  |               | (4,559  | ) |                  |   | (4,358  | )      |  |    | (201   | ) |  | -5  | %
|Other                                                    |  |               | 14,946  |   |                  |   | 11,309  |        |  |    | 3,637  |   |  | 32  | %
|                                                         |  |               |         |   |                  |   |         |        |  |    |        |   |  |     |  
|Total Assets                                             |  | $             | 446,967 |   |                  | $ | 453,448 |        |  | ($ | 6,481  | ) |  | -1  | %
|                                                         |  |               |         |   |                  |   |         |        |  |    |        |   |  |     |  
|Non-interest bearing deposits                            |  | $             | 39,229  |   |                  | $ | 44,383  |        |  | ($ | 5,154  | ) |  | -12 | %
|Interest bearing deposits                                |  |               | 352,434 |   |                  |   | 355,936 |        |  |    | (3,502 | ) |  | -1  | %
|Borrowings                                               |  |               | 3,001   |   |                  |   | 3,001   |        |  |    |       |   |  |    |  
|Other                                                    |  |               | 2,893   |   |                  |   | 1,602   |        |  |    | 1,291  |   |  | 81  | %
|Stockholders equity                                     |  |               | 49,410  |   |                  |   | 48,526  |        |  |    | 884    |   |  | 2   | %
|                                                         |  |               |         |   |                  |   |         |        |  |    |        |   |  |     |  
|Total Liabilities and Stockholders equity               |  | $             | 446,967 |   |                  | $ | 453,448 |        |  | $  | 6,481  |   |  | -1  | %
|                                                         |  |               |         |   |                  |   |         |        |  |    |        |   |  |     |  

The balance sheet shows our changes in loans and in deposits and our commitment to funding a productive mix of
assets.



| |  |  | Gross loans grew $3.1 million (from $378.5 million at December 31, 2006 to $381.6 million at March 31, 2007);
| | - |  | -------------------------------------------------------------------------------------------------------------



| |  |  | Deposits decreased $8.6 million with decreases in demand, interest-bearing checking and time deposits, attributed to a shift of funds to money market deposits, a
competitive market and the maturity of long-term time deposits. The decrease was offset with increases in money market and savings deposits due to changing terms and interest rates (from $400.3 million to $391.7 million);
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Other assets grew $3.6 million with the purchase of land in Venice for a future branch;
| | - |  | ---------------------------------------------------------------------------------------



| |  |  | Our securities portfolio grew with the purchase of $926 thousand in new investments (net growth was $421 thousand  from $24.9 million to $25.2 million);
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Borrowings remained unchanged at $3 million;
| | - |  | --------------------------------------------



| |  |  | The above activity was funded with our decrease in cash.
| | - |  | --------------------------------------------------------

LOAN PORTFOLIO and ADEQUACY of the ALLOWANCE FOR LOAN LOSSES

We believe the allowance for loan losses accounting policy is critical to the
portrayal and understanding of our financial condition and results of operations. As such, selection and application of this critical accounting policy involves judgments, estimates, and uncertainties that are susceptible to change. In
the event that different assumptions or conditions were to prevail, and depending upon the severity of such changes, the possibility of materially different financial conditions or results of operations is a reasonable likelihood.

We manage the risk characteristics of the entire loan portfolio in an effort to maintain an adequate allowance for loan losses and identify problem loans so that the
risks in the portfolio can be identified on a timely basis. Loans subject to individual review are analyzed and segregated by risk according to our internal risk rating scale. We also consider:



| |  |  | the character of the loan portfolio;
| | - |  | ------------------------------------



| |  |  | changes in nonperforming and past-due loans;
| | - |  | --------------------------------------------



| |  |  | historical loss experience;
| | - |  | ---------------------------



| |  |  | concentrations of loans to specific borrowers and industries;
| | - |  | -------------------------------------------------------------



| |  |  | general and regional economic conditions; and
| | - |  | ---------------------------------------------



| |  |  | other factors existing at the determination date.
| | - |  | -------------------------------------------------



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Although credit policies are designed to minimize risk, we recognize that loan losses will occur and that the amount of
these losses will fluctuate depending on the risk characteristics of the loan portfolio.

As of March 31, 2007, the allowance for loan losses was $4.6
million, up $201 thousand (or 5%) from December 31, 2006. This increase consists of additional provision of $191 thousand, recorded during the first quarter of 2007, recoveries of $14 thousand and charge-offs of $4 thousand. The increased
provision since the end of last year is due primarily to the downgrading of six commercial loans.

The ratio of the allowance for loan loss to total loans
outstanding was 1.19% as of March 31, 2007, up four basis points from December 31, 2006. Considering the growth in the loan portfolio management reviews all individual commercial loans of a certain grade for impairment, reviewing
delinquency and charge-off trends and taking into consideration external economic factors such as market conditions and rising interest rates, as well as those factors mentioned above. During the first quarter of 2007 certain environmental variables
were decreased to reflect the current market and seasonal conditions, as well as the current interest rate environment, as interest rates have been stable. Based on managements review of commercial and construction loans impaired assets
increased $1.1 million during the quarter ended March 31, 2007. The increase was due to the downgrading of six commercial loans; however the increase was offset with the removal of two customer relationships from the impaired asset listing. The
two customer relationships, which include ten commercial loans, were removed from the impaired asset listing and from nonperforming assets, as a result of the borrowers commitment and consistency in making payments. Management continues to
monitor and review all impaired loans and we believe that our collateral position, along with a specific allocation of the allowance, sufficiently protects the Bank from further loss; however those loans classified as impaired are characterized by
the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.

NONPERFORMING ASSETS

It is our policy to discontinue the accrual of interest income and classify a loan as nonaccrual when principal and interest is past due 90 days or more unless we
determine the principal and interest on the loan is well collateralized and in the process of collection. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal and interest is considered doubtful.
Loans are not returned to accrual status until principal and interest payments are brought current and future payments appear reasonably certain. Interest accrued and unpaid at the time a loan is placed on nonaccrual status is charged against
interest income.

As of March 31, 2007, total loans on nonaccrual status were $653 thousand, representing 0.17% of total loans. There was $889
thousand of loans on nonaccrual status at December 31, 2006. This represented 0.23% of total loans on that date. At March 31, 2007, non-performing assets represents five customer relationships. The largest relationship represents $246
thousand, or 38%, of nonaccrual loans. In addition to loans classified as nonaccrual, the Bank carefully monitors other credits that are current in terms of principal and interest payments but that we believe may deteriorate in quality if economic
conditions change.

Some of the Banks nonaccrual loans are considered to be impaired. A loan is considered impaired when its determined that it
is probable that all the contractual principal and interest due under the loan may not be collectible. Nonaccrual commercial real estate loans are reviewed individually for impairment, the impairment, if any is based upon the difference between the
carrying value of the investment and the fair value of the collateral or the present value of estimated future cash flows.



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##### Table of Contents

LIQUIDITY AND CAPITAL RESOURCES

LIQUIDITY

The goal of liquidity management is to ensure the availability of an adequate level of funds to meet the
loan demand and deposit withdrawal needs of our customers. The Bank monitors and manages its liquidity position so that funds will be available at a reasonable cost to meet financial commitments, to finance business expansion, and to take advantage
of unforeseen opportunities. We manage the levels, types, and maturities of earning assets in relation to the sources available to fund current and future needs.

In addition to maintaining a stable core deposit base, we maintain adequate liquidity primarily through the use of investment securities and unused borrowing capacity. The Bank has invested in Federal Home Loan Bank stock for the purposes
of establishing credit lines with the Federal Home Loan Bank. The credit availability to the Bank is equal to 15 percent of the Banks total assets as reported on the most recent quarterly financial information submitted to its regulators. The
credit availability approximated $67.0 million at March 31, 2007, under which $3 million was outstanding. Borrowings against this line of credit are collateralized by investment securities and the Banks residential loan portfolio.

CAPITAL RESOURCES

We and the Bank are subject to
various regulatory capital requirements which involve quantitative measures of our assets, liabilities, and certain off-balance sheet items. These capital requirements and classifications are ultimately subject to qualitative judgments by the
regulators about components, risk weightings, and other factors.

Overall we and the Bank continue to maintain a strong capital position, which supports
current needs and provides a sound foundation to support future expansion. The Corporations and Banks regulatory capital ratios are consistently above the well-capitalized standards and each has sufficient capital to maintain
a well-capitalized designation. Our capital ratios as of March 31, 2007 and December 31, 2006 are presented below.



|                                  |         |     |   |             |       |   |        |                |        |  |                   |        |  |       |        |  |       |  
|--------------------------------- | ------- | --- | - | ----------- | ----- | - | ------ | -------------- | ------ |  | ----------------- | ------ |  | ----- | ------ |  | ----- | -
|(Dollars in thousands)            |         |     |   |             | Well- |   |        | March 31, 2007 |        |  | December 31, 2006 |       
|                                  | Minimum |     |   | Capitalized |       |   | Amount |                | Ratio  |  |                   | Amount |  | Ratio |       
|First State Financial Corporation |         |     |   |             |       |   |        |                |        |  |                   |        |  |       |        |  |       |  
|Tier 1 capital                    |         | 4.0 | % |             | 6.0   | % |        | $              | 49,551 |  | 12.61             | %      |  | $     | 48,718 |  | 12.17 | %
|Total capital                     |         | 8.0 | % |             | 10.0  | % |        |                | 54,109 |  | 13.77             | %      |  |       | 53,076 |  | 13.26 | %
|Tier 1 leverage                   |         | 4.0 | % |             | 5.0   | % |        |                | 49,551 |  | 11.22             | %      |  |       | 48,718 |  | 10.89 | %
|                                  |         |     |   |             |       |  
|First State Bank                  |         |     |   |             |       |   |        |                |        |  |                   |        |  |       |        |  |       |  
|Tier 1 capital                    |         | 4.0 | % |             | 6.0   | % |        |                | 49,463 |  | 12.57             | %      |  |       | 48,670 |  | 12.16 | %
|Total capital                     |         | 8.0 | % |             | 10.0  | % |        |                | 54,022 |  | 13.73             | %      |  |       | 53,028 |  | 13.25 | %
|Tier 1 leverage                   |         | 4.0 | % |             | 5.0   | % |        |                | 49,463 |  | 11.20             | %      |  |       | 48,670 |  | 10.96 | %



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##### Table of Contents

|Item 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
|------- | ----------------------------------------------------------

Market
risk is the risk that a financial institutions earnings and capital, or its ability to meet its business objectives, will be adversely affected by movements in market rates or prices such as interest rates, foreign exchange rates, equity
rates, equity prices, credit spreads and/or commodity prices. The Company has assessed its market risk as predominately interest rate risk.

Interest rate
sensitivity as of March 31, 2007 was analyzed using a simulation analysis of the Companys sensitivity to changes in net interest income under varying assumptions for changes in market interest rates. Specifically, the model derives
expected interest income and interest expense resulting from gradual and parallel shifts in the yield curve. Rate changes are matched with known re-pricing intervals. The Bank uses standardized assumptions run against Bank data by an outsourced
provider of Asset/Liability reporting. The analysis indicates that, while a decreasing rate environment would cause our margin to compress, the decrease in net interest income is not as dramatic as the increase we would receive in a rising rate
environment. This is primarily due to the Banks ability to manage its liabilities. Competition for deposits in the Banks market areas is very prevalent. By managing maturities and rates as well as looking to other sources of funding,
such as advances from the Federal Home Loan Bank, we attempt to control the compression on our interest rate margin in such a way as to cushion the effect of a declining rate environment.

The Companys simulation analysis has its limitations, as the assumptions are inherently uncertain and subject to fluctuation and revision in a dynamic environment
and as a result the model cannot perfectly forecast net interest income, nor exactly predict the impact of higher or lower interest rates on net interest income. Actual results will differ from simulated results due to timing, magnitude, and
frequency of balance sheet components and interest rate changes, market conditions and management strategies, among other factors.



|Item 4. | CONTROLS AND PROCEDURES
|------- | -----------------------

Disclosure Controls and Procedures

Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rule 13a-15 of the Securities
Exchange Act of 1934, that are designed to cause the material information required to be disclosed by the Bank in the reports it files or submits under the Securities Exchange Act of 1934 to be recorded, processed, summarized and reported within the
time periods specified by the Securities and Exchange Commissions rules and forms. In designing and evaluating the disclosure controls and procedures, management recognized that a control design, no matter how well operated, can provide only
reasonable, not absolute, assurance that the objectives of the control design are met. Due to inherent limitations in all control designs, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if
any, within a company have been detected.

Under the supervision and with the participation of management, including the Chief Executive Officer, John E.
Jed Wilkinson and Chief Financial Officer our controls and procedures in place as of the end of the period covered by this report were evaluated. They concluded that our disclosure controls and procedures were adequate. No significant
deficiencies or material weaknesses in the design or operation of internal controls which could adversely affect our ability to record, process, summarize, and report financial data have been identified. We made no significant changes in our
internal disclosure controls and procedures or in other factors that could significantly affect these controls subsequent to the date of evaluation by management, including the Chief Executive Officer and Chief Financial Officer.

Changes in Internal Control over Financial Reporting

As of the end
of the period covered by this report, we performed an evaluation under the supervision and with the participation of management, including the Chief Executive Officer, John E. Jed Wilkinson and Chief Financial Officer, of the
effectiveness of the design and operation of its internal control over financial reporting pursuant to Rule 13a-15 of the Securities Exchange Act of 1934. Based upon that evaluation enhancements were made to the financial reporting process, however
no changes were made that were considered material or reasonably likely to materially affect, the Banks internal control over financial reporting.



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##### Table of Contents

PART II



|Item 1. | LEGAL PROCEEDINGS
|------- | -----------------

None



|Item 1A. | RISK FACTORS
|-------- | ------------

In addition to other information set
forth in this report, you should carefully consider the factors discussed in Part I, Item 1A. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2006, which could materially affect our business, financial
condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks facing the Company. Additional risks and uncertainties not currently know to us or that we currently deem to be immaterial also may adversely
affect our 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



|Item 4. | SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
|------- | -------------------------------------------------

On April 9, 2007, the Company held an annual meeting of the stockholders of the Common Stock to vote to elect seven persons to the Companys Board of Directors. The following table sets forth the votes for and votes withheld with
respect to the election of the directors:



|                  |  |                |  |               
|----------------- |  | -------------- |  | --------------
|Director Nominee: |  | Votes Cast For |  | Votes Withheld
|Robert Beymer     |  | 4,441,819      |  | 17,300        
|Corey Coughlin    |  | 4,453,802      |  | 5,317         
|Daniel Harrington |  | 4,433,819      |  | 25,300        
|Marshall Reynolds |  | 4,384,858      |  | 74,261        
|Neal Scaggs       |  | 4,425,302      |  | 33,817        
|Robert Shell, Jr. |  | 4,453,819      |  | 5,300         
|Thomas Wright     |  | 4,453,369      |  | 5,750         



|Item 5. | OTHER INFORMATION
|------- | -----------------

As announced on April 13,
2007, effective April 9, 2007, Corey J. Coughlin resigned as a Director and as President and Chief Executive Officer of the Registrant and of First State Bank to pursue other business opportunities. The Registrant appointed John E.
Jed Wilkinson as President and Chief Executive Officer and Director of the Registrant and of First State Bank. As severance compensation the Registrant will pay Mr. Coughlin $215 thousand, which will be recognized as an expense
during the second quarter of 2007.



|Item 6. | EXHIBITS
|------- | --------

Exhibit 31.1  Chief Executive
Officers certification required under Section 302 of Sarbanes-Oxley Act of 2002

Exhibit 31.2  Chief Financial
Officers certification required under Section 302 of Sarbanes-Oxley Act of 2002

Exhibit 32 - Chief Executive Officer and Chief
Financial Officers certification required under Section 906 of Sarbanes-Oxley Act of 2002



17



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##### Table of Contents

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report
to be signed on its behalf by the undersigned thereunto duly authorized.

Date: May 9, 2007



FIRST STATE FINANCIAL CORPORATION/s/ John E. Jed WilkinsonJohn E. Jed WilkinsonPresident and Chief Executive Officer/s/ Dennis GrinsteinerDennis GrinsteinerSenior Vice President and Chief Financial Officer




18