##### Table of Contents





United States

Securities and Exchange Commission

Washington, D.C. 20549





FORM 10-Q





(MARK ONE)

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

FOR THE QUARTER ENDED SEPTEMBER 30, 2008



| ̈ | TRANSITION REPORT UNDER SECTION 13 OR 15d OF THE SECURITIES EXCHANGE ACT OF 1934
|- | --------------------------------------------------------------------------------





1STFINANCIAL SERVICES CORPORATION

(Exact name of the registrant as specified in its charter)







|                                                               |  |                          |  |                                  
|-------------------------------------------------------------- |  | ------------------------ |  | ---------------------------------
|NORTH CAROLINA                                                 |  | 000-53264                |  | 26-0207901                       
|(State or other Jurisdiction of incorporation or organization) |  | (Commission File Number) |  | (IRS Employer Identification No.)

101 Jack Street

Hendersonville, North Carolina 28792

(Address of Principal Executive Office)

(828) 697-3100

(Registrants
telephone number, including area code)

Not Applicable

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





Check whether the registrant (1) has filed
all reports required to be filed by Section 13 of 15d of the Exchange Act during the past 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, a non-accelerated filer, or a smaller reporting company. See definition
of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer   ̈    Accelerated filer  x    Non-accelerated filer   ̈    Smaller reporting company   ̈

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

Common Stock, $5 par value

4,997,027 shares outstanding as of November 4, 2008









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##### Table of Contents

1stFinancial Services Corporation

Index





|                              |  |                                                                                                                              |  |           
|----------------------------- |  | ---------------------------------------------------------------------------------------------------------------------------- |  | ----------
|                              |  |                                                                                                                              |  | PageNumber
|Part I. Financial Information |  |                                                                                                                             
|                              |  |                                                                                                                             
|Item 1.                       |  | Financial Statements                                                                                                         |  |           
|                              |  |                                                                                                                             
|                              |  | Consolidated Balance Sheets September 30, 2008 (Unaudited) and December 31, 2007                                             |  | 1         
|                              |  |                                                                                                                             
|                              |  | Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2008 and 2007 (Unaudited)                |  | 2         
|                              |  |                                                                                                                             
|                              |  | Consolidated Statements of Changes in Stockholders Equity for the Nine Months Ended September 30, 2008 and 2007 (Unaudited) |  | 3         
|                              |  |                                                                                                                             
|                              |  | Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2008 and 2007
(Unaudited)                      |  | 4         
|                              |  |                                                                                                                             
|                              |  | Notes to Consolidated Financial Statements                                                                                   |  | 5-11      
|                              |  |                                                                                                                             
|Item 2.                       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                        |  | 12-26     
|                              |  |                                                                                                                             
|Item 3.                       |  | Quantitative and Qualitative Disclosures about Market Risk                                                                   |  | 27        
|                              |  |                                                                                                                             
|Item 4.                       |  | Controls and Procedures                                                                                                      |  | 27        
|                              | 
|Part II. Other Information    |  |                                                                                                                             
|                              |  |                                                                                                                             
|Item 1.                       |  | Legal Proceedings                                                                                                            |  | 28        
|                              |  |                                                                                                                             
|Item 1A.                      |  | Risk Factors                                                                                                                 |  | 28        
|                              |  |                                                                                                                             
|Item 2.                       |  | Unregistered Sales of Equity Securities and Use of Proceeds                                                                  |  | 28        
|                              |  |                                                                                                                             
|Item 3.                       |  | Defaults Upon Senior Securities                                                                                              |  | 28        
|                              |  |                                                                                                                             
|Item 4.                       |  | Submission of Matters to a Vote of Security Holders                                                                          |  | 28-29     
|                              |  |                                                                                                                             
|Item 5.                       |  | Other Information                                                                                                            |  | 29        
|                              |  |                                                                                                                             
|Item 6.                       |  | Exhibits                                                                                                                     |  | 29        
|                              | 
|Signatures                    |  | 30                                                                                                                          



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##### Table of Contents

PART I  FINANCIAL INFORMATION

Item 1. Financial Statements

1stFinancial Services Corporation

Consolidated Balance Sheets

September 30, 2008 and December 31, 2007

(dollars in
thousands)





|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|------------------------------------------------------------------------------------------------------------------------------------------------ |  | ---------------------------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                                                 |  | (Unaudited)September 30,2008 |         |   | December 31,2007 |  
|Assets                                                                                                                                           |  |                              |         |   |                  |   |         |  
|                                                                                                                                                 |  |                             
|Cash and noninterest bearing bank deposits                                                                                                       |  | $                            | 10,259  |   |                  | $ | 9,210   |  
|Interest bearing deposit with bank                                                                                                               |  |                              | 24      |   |                  |   | 69      |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total cash and cash equivalents                                                                                                                  |  |                              | 10,283  |   |                  |   | 9,279   |  
|Investment securities available for sale                                                                                                         |  |                              | 65,703  |   |                  |   | 61,115  |  
|Investment securities held to maturity                                                                                                           |  |                              | 825     |   |                  |   |        |  
|Restricted equity securities                                                                                                                     |  |                              | 6,220   |   |                  |   | 2,501   |  
|Loans held for sale                                                                                                                              |  |                              | 1,419   |   |                  |   | 5,035   |  
|Loans, net of allowance for loan losses of $9,052 at September 30, 2008 and $7,571 at December 31, 2007                                          |  |                              | 560,221 |   |                  |   | 509,337 |  
|Bank owned life insurance                                                                                                                        |  |                              | 11,382  |   |                  |   | 6,000   |  
|Property and equipment, net                                                                                                                      |  |                              | 6,999   |   |                  |   | 6,555   |  
|Accrued interest receivable                                                                                                                      |  |                              | 2,786   |   |                  |   | 3,534   |  
|Other assets                                                                                                                                     |  |                              | 4,329   |   |                  |   | 3,135   |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total assets                                                                                                                                     |  | $                            | 670,167 |   |                  | $ | 606,491 |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|                                                                                                                                                 |  |                             
|Liabilities and Stockholders Equity                                                                                                             |  |                              |         |   |                  |   |         |  
|                                                                                                                                                 |  |                             
|Liabilities:                                                                                                                                     |  |                              |         |   |                  |   |         |  
|Demand deposits                                                                                                                                  |  | $                            | 56,391  |   |                  | $ | 50,994  |  
|NOW accounts                                                                                                                                     |  |                              | 57,568  |   |                  |   | 50,504  |  
|Savings deposits                                                                                                                                 |  |                              | 74,964  |   |                  |   | 53,044  |  
|Money market accounts                                                                                                                            |  |                              | 37,100  |   |                  |   | 26,552  |  
|Time deposits under $100                                                                                                                         |  |                              | 158,782 |   |                  |   | 179,085 |  
|Time deposits of $100 and greater                                                                                                                |  |                              | 144,637 |   |                  |   | 168,926 |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total deposits                                                                                                                                   |  |                              | 529,442 |   |                  |   | 529,105 |  
|Federal funds purchased and securities sold under agreements to repurchase                                                                       |  |                              | 11,693  |   |                  |   | 9,458   |  
|Borrowings                                                                                                                                       |  |                              | 76,000  |   |                  |   | 15,000  |  
|Accrued interest payable                                                                                                                         |  |                              | 3,137   |   |                  |   | 5,209   |  
|Other liabilities                                                                                                                                |  |                              | 1,934   |   |                  |   | 1,507   |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total liabilities                                                                                                                                |  |                              | 622,206 |   |                  |   | 560,279 |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|                                                                                                                                                 |  |                             
|Commitments and contingencies (Note 3)                                                                                                           |  |                              |        |   |                  |   |        |  
|                                                                                                                                                 |  |                             
|Stockholders equity:                                                                                                                            |  |                              |         |   |                  |   |         |  
|Common stock, $5.00 par value; 20,000,000 shares authorized; 4,997,027 shares issued and outstanding at September 30, 2008 and
December 31, 2007 |  |                              | 24,985  |   |                  |   | 24,985  |  
|Additional paid-in capital                                                                                                                       |  |                              | 17,772  |   |                  |   | 17,734  |  
|Retained earnings                                                                                                                                |  |                              | 5,428   |   |                  |   | 3,621   |  
|Accumulated other comprehensive (loss)                                                                                                           |  |                              | (224    | ) |                  |   | (128    | )
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total stockholders equity                                                                                                                       |  |                              | 47,961  |   |                  |   | 46,212  |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  
|Total liabilities and stockholders equity                                                                                                       |  | $                            | 670,167 |   |                  | $ | 606,491 |  
|                                                                                                                                                 |  |                              |         |   |                  |   |         |  

See accompanying notes to consolidated financial statements



1



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1stFinancial Services Corporation

Consolidated Statements of Income

For the Three and Nine Months Ended September 30, 2008 and 2007 (Unaudited)

(dollars in thousands except per share data)





|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|-------------------------------------------------------------------------- |  | ------------------------------- | --------- | ------------------------------ | - | --------- |  | ---- | --------- |  | - | ---------
|                                                                           |  | Three Months EndedSeptember 30, |           | Nine Months EndedSeptember 30,
|                                                                           |  | 2008                            |           | 2007                           |   | 2008      |  | 2007
|Interest income                                                            |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Loans and fees on loans                                                    |  | $                               | 8,789     |                                | $ | 9,792     |  | $    | 27,242    |  | $ | 26,834   
|Investment securities                                                      |  |                                 | 729       |                                |   | 947       |  |      | 2,048     |  |   | 2,900    
|Interest-bearing bank balances                                             |  |                                 |          |                                |   |          |  |      | 1         |  |   | 1        
|Federal funds sold                                                         |  |                                 | 5         |                                |   | 24        |  |      | 11        |  |   | 28       
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Total interest income                                                      |  |                                 | 9,523     |                                |   | 10,763    |  |      | 29,302    |  |   | 29,763   
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Interest expense                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Deposits                                                                   |  |                                 | 3,776     |                                |   | 5,083     |  |      | 12,818    |  |   | 13,966   
|Federal funds purchased and securities sold under agreements to repurchase |  |                                 | 65        |                                |   | 114       |  |      | 237       |  |   | 346      
|Other borrowings                                                           |  |                                 | 375       |                                |   |          |  |      | 961       |  |   |         
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Total interest expense                                                     |  |                                 | 4,216     |                                |   | 5,197     |  |      | 14,016    |  |   | 14,312   
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Net interest income                                                        |  |                                 | 5,307     |                                |   | 5,566     |  |      | 15,286    |  |   | 15,451   
|                                                                           |  |                                 |           |                               
|Provision for loan losses                                                  |  |                                 | 615       |                                |   | 860       |  |      | 2,240     |  |   | 2,355    
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Net interest income after provision for loan losses                        |  |                                 | 4,692     |                                |   | 4,706     |  |      | 13,046    |  |   | 13,096   
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Noninterest income                                                         |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Service charges on deposit accounts                                        |  |                                 | 596       |                                |   | 462       |  |      | 1,648     |  |   | 1,278    
|Mortgage origination income                                                |  |                                 | 319       |                                |   | 579       |  |      | 1,409     |  |   | 1,835    
|Other service charges and fees                                             |  |                                 | 26        |                                |   | 23        |  |      | 85        |  |   | 72       
|Increase in cash surrender value of life insurance                         |  |                                 | 130       |                                |   |          |  |      | 382       |  |   |         
|Net realized gain on sale of investment securities                         |  |                                 | 12        |                                |   |          |  |      | 147       |  |   |         
|Other income                                                               |  |                                 | 28        |                                |   | 55        |  |      | 58        |  |   | 93       
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Total noninterest income                                                   |  |                                 | 1,111     |                                |   | 1,119     |  |      | 3,729     |  |   | 3,278    
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Noninterest expense                                                        |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Salaries and employee benefits                                             |  |                                 | 2,382     |                                |   | 2,270     |  |      | 7,104     |  |   | 6,299    
|Occupancy                                                                  |  |                                 | 384       |                                |   | 313       |  |      | 1,089     |  |   | 829      
|Equipment                                                                  |  |                                 | 310       |                                |   | 256       |  |      | 875       |  |   | 743      
|Advertising                                                                |  |                                 | 210       |                                |   | 216       |  |      | 700       |  |   | 630      
|Data processing and telecommunication                                      |  |                                 | 293       |                                |   | 448       |  |      | 1,355     |  |   | 1,270    
|Deposit insurance premiums                                                 |  |                                 | 107       |                                |   | 81        |  |      | 291       |  |   | 182      
|Professional fees                                                          |  |                                 | 623       |                                |   | 202       |  |      | 933       |  |   | 468      
|Printing and supplies expense                                              |  |                                 | 81        |                                |   | 114       |  |      | 213       |  |   | 265      
|Other general and administrative                                           |  |                                 | 667       |                                |   | 381       |  |      | 1,489     |  |   | 1,099    
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Total noninterest expense                                                  |  |                                 | 5,057     |                                |   | 4,281     |  |      | 14,049    |  |   | 11,785   
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Income before income taxes                                                 |  |                                 | 746       |                                |   | 1,544     |  |      | 2,726     |  |   | 4,589    
|                                                                           |  |                                 |           |                               
|Income tax expense                                                         |  |                                 | 236       |                                |   | 602       |  |      | 919       |  |   | 1,828    
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|                                                                           |  |                                 |           |                               
|Net income                                                                 |  | $                               | 510       |                                | $ | 942       |  | $    | 1,807     |  | $ | 2,761    
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Basic income per share(1)                                                  |  | $                               | 0.10      |                                | $ | 0.19      |  | $    | 0.36      |  | $ | 0.55     
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Diluted income per share(1)                                                |  | $                               | 0.10      |                                | $ | 0.18      |  | $    | 0.35      |  | $ | 0.51     
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Basic weighted average shares outstanding(1)                               |  |                                 | 4,997,027 |                                |   | 4,988,197 |  |      | 4,997,027 |  |   | 4,985,795
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          
|Diluted weighted average shares outstanding(1)                             |  |                                 | 5,188,698 |                                |   | 5,366,787 |  |      | 5,234,295 |  |   | 5,406,308
|                                                                           |  |                                 |           |                                |   |           |  |      |           |  |   |          



|(1) | Amounts have been adjusted for all stock splits
|--- | -----------------------------------------------



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##### Table of Contents

1stFinancial Services Corporation

Consolidated Statements of Changes in
Stockholders Equity

For the Nine Months Ended September 30, 2008 and 2007 (Unaudited)

(dollars in thousands except share data)





|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|------------------------------------------------------------------------------------------- |  | ------------ |  | ----------------- | ------ | -------- | - | ------------------------------------ |  | ------ | ----- |  | ----- | ---- | - |  | - | ------ | -
|                                                                                            |  | Common Stock |  | AdditionalPaid-in |        | Retained |   | AccumulatedOtherComprehensive Income |  |        |       | 
|                                                                                            |  | Shares       |  | Amount            |        | Capital  |   | Earnings                             |  | (Loss) |       |  | Total |     
|Balance, December 31, 2006                                                                  |  | 4,984,529    |  | $                 | 24,922 |          | $ | 17,591                               |  | $      | 581   |  | $     | (99  | ) |  | $ | 42,995 |  
|Stock compensation expense                                                                  |  |             |  |                   |       |          |   | 80                                   |  |        |      |  |       |     |   |  |   | 80     |  
|Exercise of stock options                                                                   |  | 12,498       |  |                   | 63     |          |   | 44                                   |  |        |      |  |       |     |   |  |   | 107    |  
|Comprehensive income                                                                        |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Net income                                                                                  |  |             |  |                   |       |          |   |                                     |  |        | 2,761 |  |       |     |   |  |   | 2,761  |  
|Net unrealized gain on investment securities available for sale, net of income taxes of $50 |  |             |  |                   |       |          |   |                                     |  |        |      |  |       | 97   |   |  |   | 97     |  
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Total comprehensive income                                                                  |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   | 2,858  |  
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Balance, September 30, 2007                                                                 |  | 4,997,027    |  | $                 | 24,985 |          | $ | 17,715                               |  | $      | 3,342 |  | $     | (2   | ) |  | $ | 46,040 |  
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|                                                                                            |  |              |  |                   |        |         
|Balance, December 31, 2007                                                                  |  | 4,997,027    |  | $                 | 24,985 |          | $ | 17,734                               |  | $      | 3,621 |  | $     | (128 | ) |  | $ | 46,212 |  
|Stock compensation expense                                                                  |  |             |  |                   |       |          |   | 38                                   |  |        |      |  |       |     |   |  |   | 38     |  
|Comprehensive income                                                                        |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Net income                                                                                  |  |             |  |                   |       |          |   |                                     |  |        | 1,807 |  |       |     |   |  |   | 1,807  |  
|Net unrealized gain on investment securities available for sale, net of income taxes of $2  |  |             |  |                   |       |          |   |                                     |  |        |      |  |       | 7    |   |  |   | 7      |  
|Reclassification adjustment for gains included in net income, net of income taxes of $(52)  |  |             |  |                   |       |          |   |                                     |  |        |      |  |       | (103 | ) |  |   | (103   | )
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Total comprehensive income                                                                  |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   | 1,711  |  
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  
|Balance, September 30, 2008                                                                 |  | 4,997,027    |  | $                 | 24,985 |          | $ | 17,772                               |  | $      | 5,428 |  | $     | (224 | ) |  | $ | 47,961 |  
|                                                                                            |  |              |  |                   |        |          |   |                                      |  |        |       |  |       |      |   |  |   |        |  

See accompanying notes to consolidated financial statements



3



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##### Table of Contents

1stFinancial Services Corporation

Consolidated Statements of Cash Flows

For the Nine Months Ended September 30, 2008 and 2007 (Unaudited)

(dollars in thousands)





|                                                                                                      |  |                                        |         |   |      |   |          |  
|----------------------------------------------------------------------------------------------------- |  | -------------------------------------- | ------- | - | ---- | - | -------- | -
|                                                                                                      |  | For the Nine Months EndedSeptember 30, |        
|                                                                                                      |  | 2008                                   |         |   | 2007 |  
|Cash flows from operating activities                                                                  |  |                                        |         |   |      |   |          |  
|Net income                                                                                            |  | $                                      | 1,807   |   |      | $ | 2,761    |  
|Adjustments to reconcile net income to net cash provided by operations:                               |  |                                        |         |   |      |   |          |  
|Depreciation                                                                                          |  |                                        | 937     |   |      |   | 700      |  
|Provision for loan losses                                                                             |  |                                        | 2,240   |   |      |   | 2,355    |  
|Deferred income taxes                                                                                 |  |                                        | (689    | ) |      |   | (361     | )
|Amortization of premium on securities, net of discount accretion                                      |  |                                        | 271     |   |      |   | 115      |  
|Origination of available for sale loans                                                               |  |                                        | (78,995 | ) |      |   | (88,364  | )
|Sales of available for sale loans                                                                     |  |                                        | 82,611  |   |      |   | 89,426   |  
|Net realized gains on sales of investment securities                                                  |  |                                        | (147    | ) |      |   |         |  
|Stock compensation expense                                                                            |  |                                        | 38      |   |      |   | 80       |  
|Increase in cash surrender value of bank owned life insurance                                         |  |                                        | (382    | ) |      |   |         |  
|Changes in assets and liabilities:                                                                    |  |                                        |         |   |      |   |          |  
|Accrued interest receivable                                                                           |  |                                        | 748     |   |      |   | (814     | )
|Other assets                                                                                          |  |                                        | (326    | ) |      |   | (797     | )
|Accrued interest payable                                                                              |  |                                        | (2,072  | ) |      |   | 857      |  
|Other liabilities                                                                                     |  |                                        | 427     |   |      |   | 837      |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Net cash provided by operating activities                                                             |  |                                        | 6,468   |   |      |   | 6,795    |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|                                                                                                      |  |                                       
|Cash flows from investing activities                                                                  |  |                                        |         |   |      |   |          |  
|Purchases of investment securities available for sale                                                 |  |                                        | (50,502 | ) |      |   | (22,573  | )
|Sales of investment securities available for sale                                                     |  |                                        | 26,214  |   |      |   |         |  
|Purchase of held to maturity investment securities                                                    |  |                                        | (825    | ) |      |   |         |  
|Maturities and calls of investment securities                                                         |  |                                        | 19,429  |   |      |   | 29,712   |  
|Purchases of restricted equity securities                                                             |  |                                        | (4,034  | ) |      |   | (1,421   | )
|Sales of restricted equity securities                                                                 |  |                                        | 315     |   |      |   | 1,000    |  
|Net increase in loans                                                                                 |  |                                        | (53,252 | ) |      |   | (108,449 | )
|Purchase of bank owned life insurance                                                                 |  |                                        | (5,000  | ) |      |   |         |  
|Purchases of property and equipment                                                                   |  |                                        | (1,381  | ) |      |   | (2,352   | )
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Net cash used in investing activities                                                                 |  |                                        | (69,036 | ) |      |   | (104,083 | )
|                                                                                                      |  |                                        |         |   |      |   |          |  
|                                                                                                      |  |                                       
|Cash flows from financing activities                                                                  |  |                                        |         |   |      |   |          |  
|Net increase in deposits                                                                              |  |                                        | 337     |   |      |   | 107,458  |  
|Net increase (decrease) in securities sold under agreements to repurchase and federal funds purchased |  |                                        | 2,235   |   |      |   | (1,973   | )
|Proceeds from issuance of common stock                                                                |  |                                        |        |   |      |   | 107      |  
|Net increase in borrowings                                                                            |  |                                        | 61,000  |   |      |   |         |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Net cash provided by financing activities                                                             |  |                                        | 63,572  |   |      |   | 105,592  |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|                                                                                                      |  |                                       
|Net increase in cash and cash equivalents                                                             |  |                                        | 1,004   |   |      |   | 8,304    |  
|                                                                                                      |  |                                       
|Cash and cash equivalents, beginning                                                                  |  |                                        | 9,279   |   |      |   | 10,306   |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Cash and cash equivalents, ending                                                                     |  | $                                      | 10,283  |   |      | $ | 18,610   |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|                                                                                                      |  |                                       
|Supplemental disclosure of cash flow information                                                      |  |                                        |         |   |      |   |          |  
|Transfer of loans to real estate acquired in settlement of loans                                      |  | $                                      | 75      |   |      | $ |         |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Transfer of loans to repossessions acquired in settlement of loans                                    |  | $                                      | 53      |   |      | $ | 670      |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Interest paid                                                                                         |  | $                                      | 16,088  |   |      | $ | 13,455   |  
|                                                                                                      |  |                                        |         |   |      |   |          |  
|Taxes paid                                                                                            |  | $                                      | 1,256   |   |      | $ | 1,851    |  
|                                                                                                      |  |                                        |         |   |      |   |          |  

See accompanying notes to consolidated financial statements



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial
Statements (Unaudited)

September 30, 2008



Note 1. Organization and Summary of Significant Accounting
Policies

Organization

1stFinancial
Services Corporation (the Company), formed in May 2008, is a North Carolina corporation and the sole owner of all of the capital stock of Mountain 1stBank & Trust Company. Mountain 1st Bank & Trust Company (the Bank) is a North Carolina state chartered, non-member bank which was organized and incorporated under the laws of the State
of North Carolina on April 30, 2004. The Bank commenced operations on May 14, 2004 and has experienced rapid growth since that time. The Bank is headquartered in Hendersonville, North Carolina and currently conducts business in nine
western North Carolina counties through fourteen full service branch offices. As a state chartered bank, the Bank is subject to regulation by the North Carolina State Banking Commission and the Federal Deposit Insurance Corporation.

Principles of Consolidation

The consolidated financial statements include the accounts of 1stFinancial Services Corporation and its
wholly-owned subsidiary Mountain 1st Bank & Trust. All intercompany transactions and balances have been eliminated in consolidation.

Basis
of Presentation

The accompanying unaudited consolidated financial statements were prepared
in accordance with instructions for Form 10-Q and therefore do not include all disclosures required by generally accepted accounting principles for a complete presentation of financial statements. In the opinion of management, the consolidated
financial statements contain all adjustments necessary to present fairly the financial condition of 1stFinancial Services Corporation as of
September 30, 2008 and December 31, 2007, its results of operations for the three and nine month periods ended September 30, 2008 and 2007, and its cash flows and changes in stockholders equity for the nine month periods ended
September 30, 2008 and 2007. Management believes that all interim period adjustments are of a normal recurring nature. These financial statements should be read in conjunction with the audited financial statements for the year ended
December 31, 2007, contained in the Banks filing on Form 10-K/A. The accounting policies of the Company and the Bank follow generally accepted accounting principles and practices within the financial services industry.

Presentation of Cash Flows

For purposes of reporting cash
flows, cash and cash equivalents includes cash, amounts due from depository institutions (including cash items in process of collection which are considered to be cash equivalents) and federal funds sold. Cash flows from demand deposits, NOW
accounts and savings accounts are reported net since their original maturities are less than three months. Loans and time deposits are reported net per Financial Accounting Standards Board (FASB) statement No. 104.

Investment Securities

Investments classified as available for
sale can be held for indefinite periods of time and include those securities that management may employ as part of asset/liability strategy or that may be sold in response to changes in interest rates, prepayments, regulatory capital requirements or
similar factors. These securities are carried at fair value and are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.

Investment securities classified as held to maturity are those debt securities that the Bank has the ability and intent to hold to maturity. Accordingly, these
securities are carried at cost adjusted for amortization of premiums and accretion of discount, computed by the interest-method over their contractual lives.



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial
Statements (Unaudited)

September 30, 2008



Loans

Loans are stated at the amount of unpaid principal, reduced by unearned fees and the allowance for loan losses. Interest on all loans is accrued daily on the outstanding
balance. Accrual of interest is discontinued on a loan when management believes, after considering collection efforts and other factors, that the borrowers financial condition is such that the full collection of principal or interest is
doubtful.

Property and Equipment

The
Companys properties and equipment are stated at cost less accumulated depreciation. Depreciation is computed by the straight-line method over periods of two to twelve years for leasehold improvements and from two to twenty-five years for
furniture and equipment.

Recent Accounting Developments

The following is a summary of recent authoritative pronouncements that could impact the accounting, reporting and/or disclosure of financial information by the Company.

In December 2007, the Financial Accounting Standards Board (FASB) issued Statement of Accounting Standards (SFAS) No. 141(R), Business Combinations, (SFAS 141(R))
which replaces SFAS 141. SFAS 141(R) establishes principles and requirements for how an acquirer in a business combination recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any
controlling interest; recognizes and measures goodwill acquired in the business combination or a gain from a bargain purchase; and determines what information to disclose to enable users of the financial statements to evaluate the nature and
financial effects of the business combination. FAS 141(R) is effective for acquisitions by the Company taking place on or after January 1, 2009. Early adoption is prohibited. Accordingly, a calendar year-end company is required to record and
disclose business combinations following existing accounting guidance until January 1, 2009. The Company will assess the impact of SFAS 141(R) if and when a future acquisition occurs.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements  an amendment of ARB No. 51
(SFAS 160). SFAS 160 establishes new accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Before this statement, limited guidance existed for reporting
noncontrolling interests (minority interest). As a result, diversity in practice exists. In some cases minority interest is reported as a liability and in others it is reported in the mezzanine section between liabilities and equity. Specifically,
SFAS 160 requires the recognition of a noncontrolling interest (minority interest) as equity in the consolidated financials statements and separate from the parents equity. The amount of net income attributable to the noncontrolling interest
will be included in consolidated net income on the face of the income statement. SFAS 160 clarifies that changes in a parents ownership interest in a subsidiary that do not result in deconsolidation are equity transactions if the parent
retains its controlling financial interest. In addition, this statement requires that a parent recognize gain or loss in net income when a subsidiary is deconsolidated. Such gain or loss will be measured using the fair value of the noncontrolling
equity investment on the deconsolidation date. SFAS 160 also includes expanded disclosure requirements regarding the interests of the parent and its noncontrolling interests. SFAS 160 is effective for the Company on January 1, 2009. Earlier
adoption is prohibited. The Company is currently evaluating the impact, if any, the adoption of SFAS 160 will have on its financial position, results of operations and cash flows.

In February 2008, the FASB issued FASB Staff Position (FSP) No. 140-3, Accounting for Transfers of Financial Assets and Repurchase Financing Transactions (FSP 140-3). This
FSP provides guidance on accounting for a transfer of a financial asset and the transferors repurchase financing of the asset. This FSP presumes that an initial transfer of a financial asset and a repurchase financing are considered part of
the same arrangement (linked transaction) under SFAS No. 140. However, if certain criteria are met, the initial transfer and repurchase financing are not evaluated as a linked transaction and are evaluated separately under Statement 140. FSP
140-3 will be effective for financial statements issued for fiscal years beginning after November 15, 2008, and interim periods within those fiscal years and earlier application is not permitted. Accordingly, this FSP is effective for the
Company on January 1, 2009. The Company is currently evaluating the impact, if any, the adoption of FSP 140-3 will have on its financial position, results of operations and cash flows.



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial
Statements (Unaudited)

September 30, 2008



In March 2008, the FASB issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging Activities (SFAS 161). SFAS 161 requires enhanced disclosures about an entitys derivative and hedging activities and thereby improving the transparency of financial
reporting. It is intended to enhance the current disclosure framework in SFAS 133 by requiring that objectives for using derivative instruments be disclosed in terms of underlying risk and accounting designation. This disclosure purports to better
convey the purpose of derivative use in terms of the risks that the entity is intending to manage. SFAS 161 is effective for the Company and the Bank on January 1, 2009. This pronouncement does not impact accounting measurements but will result
in additional disclosures if the Company or the Bank is involved in material derivative and hedging activities at that time.

In April 2008, the FASB
issued FASB Staff Position No. 142-3, Determination of the Useful Life of Intangible Assets (FSP 142-3). This FSP amends the factors that should be considered in developing renewal or extension assumptions used to
determine the useful life of a recognized intangible asset under SFAS No. 142, Goodwill and Other Intangible Assets. The intent of this FSP is to improve the consistency between the useful life of a recognized intangible asset under
SFAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS No. 141(R), Business Combinations, and other U.S. generally accepted accounting principles. This FSP is effective for
financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years and early adoption is prohibited. Accordingly, this FSP is effective for the Bank on January 1, 2009. The Company
does not believe the adoption of FSP 142-3 will have a material impact on its financial position, results of operations or cash flows.

In May, 2008, the
FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles, (SFAS No. 162). SFAS No. 162 identifies the sources of accounting principles and the framework for selecting the principles
used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles (GAAP) in the United States (the GAAP hierarchy). SFAS No. 162 will be effective 60 days
following the SECs approval of the Public Company Accounting Oversight Boards amendments to AU Section 411, The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles. The FASB has stated
that it does not expect SFAS No. 162 will result in a change in current practice. The application of SFAS No. 162 is expected to have no effect on the Companys financial position, results of operations or cash flows.

In May, 2008, the FASB issued FASB Staff Position No. APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including
Partial Cash Settlement), (FSP No. APB 14-1). The Staff Position specifies that issuers of convertible debt instruments that may be settled in cash upon conversion should separately account for the liability and equity components
in a manner that will reflect the entitys nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. FSP No. APB 14-1 provides guidance for initial and subsequent measurement as well as derecognition provisions.
The Staff Position is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is not permitted. The Company does not believe the adoption of
this Staff Position will have a material impact on its financial position, results of operations or cash flows.

In June, 2008, the FASB issued FASB Staff
Position No. EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities, (FSP EITF 03-6-1). The Staff Position provides that unvested share-based payment awards that
contain nonforfeitable rights to dividends or dividend equivalents are participating securities and must be included in the earnings per share computation. FSP EITF 03-6-1 is effective for financial statements issued for fiscal years beginning after
December 15, 2008, and interim periods within those years. All prior-period earnings per share data presented must be adjusted retrospectively. Early application is not permitted. The Company does not believe the adoption of this Staff Position
will have a material impact on its financial position, results of operations or cash flows.

FSP SFAS 133-1 and FIN 45-4, Disclosures about Credit
Derivatives and Certain Guarantees: An Amendment of FASB Statement No. 133 and FASB Interpretation No. 45; and Clarification of the Effective Date of FASB Statement No. 161, (FSP SFAS 133-1 and FIN 45-4) was issued
September 2008, effective for reporting periods (annual or interim) ending after November 15, 2008. FSP SFAS 133-1 and FIN 45-4 amends SFAS 133 to require the seller of credit derivatives to disclose the nature of the credit derivative, the
maximum potential amount of future payments, fair value of the derivative, and the nature of any recourse provisions. Disclosures must be made for entire hybrid instruments that have embedded credit derivatives.



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial
Statements (Unaudited)

September 30, 2008



The staff position also amends FIN 45 to require disclosure of the
current status of the payment/performance risk of the credit derivative guarantee. If an entity utilizes internal groupings as a basis for the risk, how the groupings are determined must be disclosed as well as how the risk is managed.

The staff position encourages that the amendments be applied in periods earlier than the effective date to facilitate comparisons at initial adoption. After initial
adoption, comparative disclosures are required only for subsequent periods.

FSP SFAS 133-1 and FIN 45-4 clarifies the effective date of SFAS 161 such that
required disclosures should be provided for any reporting period (annual or quarterly interim) beginning after November 15, 2008. The adoption of this Staff Position will have no material effect on the Companys financial position, results
of operations or cash flows.

The SECs Office of the Chief Accountant and the staff of the FASB issued press release 2008-234 on September 30,
2008 (Press Release) to provide clarifications on fair value accounting. The press release includes guidance on the use of managements internal assumptions and the use of market quotes. It also reiterates the factors in
SEC Staff Accounting Bulletin (SAB) Topic 5M which should be considered when determining other-than-temporary impairment: the length of time and extent to which the market value has been less than cost; financial condition and near-term
prospects of the issuer; and the intent and ability of the holder to retain its investment for a period of time sufficient to allow for any anticipated recovery in market value.

On October 10, 2008, the FASB issued FSP SFAS 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active (FSP SFAS 157-3). This FSP clarifies the
application of SFAS No. 157, Fair Value Measurements (see Note 5) in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that
asset is not active. The FSP is effective upon issuance, including prior periods for which financial statements have not been issued. For the Company, this FSP is effective for the quarter ended September 30, 2008.

The Company considered the guidance in the Press Release and in FSP SFAS 157-3 when conducting its review for other-than-temporary impairment as of September 30,
2008 and determined that it did not result in a change to its impairment estimation techniques.

Other accounting standards that have been issued or
proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Companys financial position, results of operations or cash flows.

Note 2.Net Income Per Share

Basic income per share represents the net income allocated to
stockholders divided by the weighted-average number of common shares outstanding during the period. Dilutive income per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued.
Potential common shares that may be issued by the Company relate to outstanding stock options, and are determined using the treasury stock method.

For the
three months ended September 30, 2008, basic weighted average shares outstanding totaled 4,997,027 and diluted weighted average shares totaled 5,188,698 amounting to basic earnings per share (EPS) and diluted earnings per share of $0.10 per
share for the period. For the three months ended September 30, 2007, basic weighted average shares outstanding totaled 4,988,197 and basic earnings per share amounted to $0.19 per share. Diluted weighted average shares totaled 5,366,787 which
accounted for dilution of $0.01 per share and resulted in fully diluted EPS of $0.18 per share for the three months ended September 30, 2007.

For the
nine months ended September 30, 2008, basic weighted average shares outstanding totaled 4,997,027 and basic earnings per share (EPS) amounted to $0.36 per share. Diluted weighted average shares totaled 5,234,295 which accounted for dilution of
$0.01 per share and resulted in fully diluted EPS of $0.35 for the nine months ended September 30, 2008. For the nine months ended September 30, 2007, basic weighted average shares outstanding totaled 4,985,795 and basic earnings per share
amounted to $0.55 per share. Diluted weighted average shares totaled 5,406,308 which accounted for dilution of $0.04 per share and resulted in fully diluted EPS of $0.51 per share for the nine months ended September 30, 2007.



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##### Table of Contents

1stFinancial Services Corporation

Notes to
Consolidated Financial Statements (Unaudited)

September 30, 2008



Additionally, 312,284 shares attributable to outstanding stock
options were excluded from the calculation of diluted earnings per share for the three and nine month periods ended September 30, 2008 because their inclusion would have been anti-dilutive. No shares were excluded from the diluted earnings per
share calculations as of September 30, 2007.

Note 3. Off-Balance Sheet Items

The Company is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit
and standby letters of credit. These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the balance sheets.

The
Companys exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The
Company uses the same credit policies in making commitments and conditional obligations as for on-balance-sheet instruments. A summary of the Companys commitments at September 30, 2008 and December 31, 2007 is as follows (dollars in
thousands):



|                             |  |                   |        |                  |   |       
|---------------------------- |  | ----------------- | ------ | ---------------- | - | ------
|                             |  | September 30,2008 |        | December 31,2007
|Commitments to extend credit |  | $                 | 91,435 |                  | $ | 97,999
|Standby letters of credit    |  |                   | 2,094  |                  |   | 960   
|                             |  |                   |        |                  |   |       
|                             |  | $                 | 93,529 |                  | $ | 98,959
|                             |  |                   |        |                  |   |       

Note 4. Stock-based Compensation

During 2004, the Banks Board of Directors approved both an Employee Stock Option Plan and a Director Stock Option Plan (collectively referred to as Plans). In conformance with North Carolina state banking
statutes, these plans were subject to the approval of our stockholders and the North Carolina Commissioner of Banks. The Plans, as they subsequently were amended by the Board and approved by our stockholders and the Commissioner, provide that up to
497,110 shares (adjusted for all stock splits) of our common stock may be issued under each plan for a combined total of 994,220 shares. Options granted under the Plans may be vested immediately and expire no more than 10 years from date of grant.
The exercise price for any options granted under the Plans is established at the date of grant (and is adjusted on a pro rata basis for any subsequent stock split).

On January 1, 2006, we adopted the provisions of, and account for stock-based compensation in accordance with, the Financial Accounting Standards Boards (FASB) Statement of Financial Accounting
Standards No 123  revised 2004 (SFAS 123R), Share-Based Payment, which replaced SFAS No. 123, Accounting for Stock Based Compensation, and supersedes APB No. 25, Accounting for Stock Issued
to Employees, and its related interpretations. Under the fair value recognition provisions of this statement, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a
straight-line basis over the requisite service period, which is the vesting period. We elected the modified-prospective method, under which prior periods are not revised for comparative purposes. The valuation provisions of SFAS 123R apply to new
grants and to grants that were outstanding as of the effective date and are subsequently modified. Estimated compensation for grants that were outstanding as of the effective date will be recognized over the remaining service period using the
compensation cost estimated for the SFAS 123 pro forma disclosures.

The fair value of each option award is estimated on the date of grant using the
Black-Scholes option-pricing model. The risk-free interest rate is based on the U.S. Treasury rate for the expected life at the time of grant. Volatility is based on the volatility of our stocks trading history. The expected life is based on
the average life of the options and the weighted average graded vesting period, and forfeitures are estimated based on the Companys history. Ten thousand options were granted during the nine-month period ended September 30, 2008 with the
following weighted-average assumptions: expected volatility of 51.73%; risk-free interest rate of 4.07%; and expected life of 6.50 years. During the first nine months of 2008, 29,883 options were forfeited.



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1stFinancial Services Corporation

Notes to
Consolidated Financial Statements (Unaudited)

September 30, 2008



The Company recognized $38 thousand in stock compensation
expense during the first nine months of 2008, compared to $80 thousand during the first nine months of 2007 which related to the vesting of outstanding options.

A summary of option activity under the Plans is as follows:



|                                |  |                    |   |  |                              |       |                                 |            |                   |   |    
|------------------------------- |  | ------------------ | - |  | ---------------------------- | ----- | ------------------------------- | ---------- | ----------------- | - | ---
|                                |  | OptionsOutstanding |   |  | WeightedAverageExercisePrice |       | AverageRemainingContractualTerm |            | IntrinsicValue(1)
|Outstanding, January 1, 2008    |  | 928,777            |   |  | $                            | 8.86  |                                 |            |                   |   |    
|Granted                         |  | 10,000             |   |  | $                            | 9.90  |                                 |            |                   |   |    
|Forfeited                       |  | (29,883            | ) |  | $                            | 16.72 |                                 |            |                   |   |    
|Exercised                       |  | (781               | ) |  | $                            | 13.31 |                                 |            |                   |   |    
|                                |  |                    |   |  |                              |       |                                 |            |                   |   |    
|Outstanding, September 30, 2008 |  | 908,113            |   |  | $                            | 8.60  |                                 | 6.51 Years |                   | $ | 590
|                                |  |                    |   |  |                              |       |                                 |            |                   |   |    
|                                |  |                    |   | 
|Exercisable, September 30, 2008 |  | 890,613            |   |  | $                            | 8.46  |                                 | 6.23 Years |                   | $ | 707
|                                |  |                    |   |  |                              |       |                                 |            |                   |   |    



|(1) | dollars in thousands
|--- | --------------------

Note 5. Fair Value Measurements

Effective January 1, 2008, the Company adopted SFAS No. 157, Fair Value Measurements (SFAS 157) which provides a framework for
measuring and disclosing fair value under generally accepted accounting principles. SFAS 157 requires disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether
the measurements are made on a recurring basis (for example, available-for-sale investment securities) or on a nonrecurring basis (for example, impaired loans).

SFAS 157 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between
market participants on the measurement date. SFAS 157 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard
describes three levels of inputs that may be used to measure fair value:



|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Level 1 |  | Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active
exchange market, as well as U.S. Treasury securities that are highly liquid and are actively traded in over-the-counter markets.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|        | 
|Level 2 |  | Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can
be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments, as
well as U.S. Government and agency mortgage backed debt securities and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by
observable market data. This category generally includes certain derivative contracts and impaired loans.
|        | 
|Level 3 |  | Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include
financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts.                                                                                                                            



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##### Table of Contents

1stFinancial Services Corporation

Notes to
Consolidated Financial Statements (Unaudited)

September 30, 2008



Assets and liabilities measured at fair value on a recurring
basis are as follows as of September 30, 2008 (dollars in thousands):



|                               |  |                                               |   |                                             |   |                                         |  |   |  
|------------------------------ |  | --------------------------------------------- | - | ------------------------------------------- | - | --------------------------------------- |  | - | -
|                               |  | Quoted market pricein active markets(Level 1) |   | Significant otherobservableinputs (Level 2) |   | Significantunobservable inputs(Level
3)
|Available-for-sale investments |  | $                                             |  |                                             | $ | 65,703                                  |  | $ | 
|Mortgage loans held for sale   |  |                                               |  |                                             |   | 1,419                                   |  |   | 
|Impaired loans                 |  |                                               |  |                                             |   | 8,746                                   |  |   | 
|                               |  |                                               |   |                                             |   |                                         |  |   |  
|Total                          |  | $                                             |  |                                             | $ | 75,868                                  |  | $ | 
|                               |  |                                               |   |                                             |   |                                         |  |   |  

The Company has no liabilities carried at fair value or measured at fair value on a nonrecurring basis.

The Company is predominantly an asset based lender with real estate serving as collateral on a substantial majority of loans. Loans which are deemed to be
impaired are primarily valued on a nonrecurring basis at the fair values of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be level 2 inputs.

FASB Staff Position No. FAS 157-2 delays the implementation of SFAS 157 until the first quarter of 2009 with respect to goodwill, other intangible assets, real estate
and other assets acquired through foreclosure and other non-financial assets measured at fair value on a nonrecurring basis.

The Company has no assets or
liabilities whose fair values are measured using level 3 inputs.



|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations
|------- | -------------------------------------------------------------------------------------

Introduction

1stFinancial Services Corporation is a North Carolina corporation headquartered in Hendersonville, North Carolina that in May 2008 became the sole owner of all of the capital stock of
Mountain 1st Bank & Trust Company (the Bank). The Bank is a North Carolina state chartered, non-member bank which was organized and incorporated under the laws of the State of North Carolina on April 30, 2004 and began
operations on May 14, 2004. Currently, the Bank conducts business through fourteen full-service branch offices located in nine western North Carolina counties.

Because the Company has no separate operations and conducts no business on its own other than owning the Bank, the discussion contained in this Managements Discussion and Analysis concerns primarily the business
of the Bank. However, because the financial statements are presented on a consolidated basis, the Company and the Bank are collectively referred to herein as the Company unless otherwise noted.

The Bank competes for loans and deposits throughout the markets it serves. The Bank, like other financial institutions, derives most of its revenue from net interest
income, which is the difference between the income it earns from loans and securities minus the interest expense it incurs on deposits and borrowings.

Management has provided the following discussion and analysis to address information about the Companys financial condition and results of operations which may not otherwise be apparent from the financial statements included in this
report. Reference should be made to those statements for an understanding of the following discussion and analysis. The following discussion and analysis should be read in conjunction with the financial statements of the Bank and the notes thereto
located herein and in the Banks filing on Form 10-K/A for the year ended December 31, 2007.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



Factors That May Affect Future Results

The following discussion contains certain forward-looking statements about the Companys financial condition and results of operations, which are subject to
certain risks and uncertainties that could cause actual results to differ materially from those reflected in the forward-looking statements. Those statements may be identified by the use of terms such as may, will,
should, could, plans, intends, anticipates, expects, believes, estimates, predicts, forecasts, potential or
continue, or similar terms or the negative of these terms, or other statements concerning opinions or judgments of our management about future events. Readers are cautioned not to place undue reliance on these forward-looking statements,
which reflect managements judgment only as of the date hereof. The Company undertakes no obligation to publicly revise these forward-looking statements to reflect events and circumstances that arise after the date hereof. Factors that may
cause actual results to differ materially from those contemplated by such forward looking statements include, among others, the following possibilities: (1) projected business increases in connection with the implementation of our business plan
are lower than expected; (2) competitive pressure among financial services companies increases significantly; (3) expenses in general are greater than expected; (4) general economic conditions, in the markets in which the Company does
business, are less favorable than expected; (5) risks inherent in making loans, including repayment risks and risks associated with collateral values, are greater than expected; (6) changes in the interest rate environment reduce interest
margins and affect funding sources; (7) changes in market rates and prices may adversely affect the value of financial products; (8) any inability to generate liquidity necessary to meet loan demand or other cash needs; (9) any
inability to accurately predict the adequacy of the loan loss allowance needs; (10) legislation or regulatory requirements or changes that could adversely affect the businesses in which the Company is engaged; (11) decision to change the
business mix of the Company; and (12) factors discussed in reports previously filed by the Bank with the Federal Deposit Insurance Corporation and now filed by the Company with the Securities and Exchange Commission from time to time affect the
Companys financial condition and results of operations.

Critical Accounting Policies

Allowance for Loan Losses. The Companys most significant critical accounting policy is the determination of the Banks allowance for loan losses. A critical
accounting policy is one that is both very important to the portrayal of the Companys financial condition and results, and requires managements most difficult, subjective or complex judgments. What makes these judgments difficult,
subjective and/or complex is the need to make estimates about the effects of matters that are inherently uncertain. If the mix and amount of actual future loan losses differ significantly from those assumptions used in making a determination, the
allowance for loan losses and resultant provisions for loan losses could materially impact the Companys financial position and results of operations. For further discussion of the allowance for loan losses and a detailed description of the
methodology used in determining the adequacy of the allowance, see the sections of this discussion titled Asset Quality and Analysis of Allowance for Loan Losses and Note 1 to the audited financial statements for the year
ended December 31, 2007 contained in the Banks filing on Form 10-K/A.

Off-Balance Sheet Arrangements.The Company does not have any
off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on its financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital
resources that would be expected to be considered material to investors.

General Economic Conditions

Throughout most of its history, the Bank has operated in an environment of rising interest rates. However, during the last quarter of 2007, the Federal Reserves
Federal Open Market Committee (FOMC) began to dramatically reduce short term interest rates in response to a weakening economy. Heretofore, management had structured the Companys balance sheet to be relatively interest rate neutral within a
normal band of interest rate fluctuations from 100 to 200 basis points up or down. However, the Federal Reserve has elected to reduce rates in an extreme fashion that is unprecedented in recent history. As a result, the slightly asset sensitive bias
maintained by the Company since its inception has become more pronounced as rates have rapidly fallen over the past nine or ten



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Managements Discussion and Analysis

September 30, 2008



months. Since the first drop in rates in late September 2007,
rates have decreased 425 basis points (4.25%). Approximately seventy-three percent (73%) of the Companys loan portfolio is indexed to the prime rate. The rates on these loans dropped further and faster during the first and second quarter
than did the costs associated with the Companys deposits. As a result, the Companys net interest margin declined substantially during the first nine months of 2008. The Companys net interest margin averaged 4.01% during 2007,
however, as a result of the declining interest rate environment the net interest margin fell to 3.30% and 3.25%, respectively, for the three and nine month periods ended September 30, 2008. This decline in net interest margin was the primary
causal factor for the decline in quarter over quarter net income of approximately 45.9% that was experienced in the third quarter of 2008. As the Companys CD portfolio re-prices over the next several months, management expects the
Companys net interest margin to improve somewhat. However, due to the low absolute level of rates currently being experienced and unusually high CD rates within our local markets, we anticipate margin compression to continue into 2009. We
think this will likely prevent margins from expanding to 2007 levels until interest rates once again begin to rise.

Overview

The Companys primary market area is located in the mountain region of southwestern North Carolina and predominately encompasses the Asheville/Hendersonville MSA.
The principal business sectors in this region include service companies directly or indirectly linked to tourism which is the largest economic driver of the region, small to mid-sized manufacturing companies, real estate development, particularly
relating to the ongoing growth of the area as a retirement and second home destination, the arts and crafts industry and to a lesser degree, agriculture.

The Bank believes that its current base of business is relatively well diversified as is the general economic base of the region as a whole. The only concentration identified by management within the Banks lending portfolio is in
loans secured by real estate. At September 30, 2008, loans collateralized by real estate comprise approximately 78% of the Banks total loan portfolio. This total includes $171.2 million in loans classified as construction or acquisition
and development and $179.4 million in loans classified as commercial real estate, representing 30.1% and 31.5%, respectively of the total portfolio. Management believes that concentration risk within this sector of the loan portfolio is mitigated by
the mix of different types of real estate held as collateral. These include residential, multifamily and commercial properties.

In addition to monitoring
potential concentrations of loans to particular borrowers or groups of borrowers, industries, geographic regions and loan types, management monitors exposure to credit risk from other lending practices such as loans with high loan-to-value ratios.
In prior quarters, management had determined that the Bank had a concentration of real estate loans that exceeded the regulatory guidelines for loan-to-value ratios. As a result, management determined to reduce this risk factor within the loan
portfolio. By the end of 2007, loans exceeding regulatory loan to value guidelines had been reduced to 55.0% of capital, well below the regulatory threshold of 100% of capital. At September 30, 2008, loans with LTV exceptions represented 58.9%
of capital.

Recently, banking regulators have continued to issue guidance to banks concerning their perception of general risks levels associated with
higher concentrations of commercial real estate loans (CRE) as a proportion of total loans and as a percentage of capital within bank loan portfolios. It remains managements understanding that regulatory interpretations of this
guidance would not necessarily prohibit future growth for banks with concentrations of CRE, however, additional monitoring and risk management procedures are likely to be required for portfolios with higher levels of CRE and additional CRE lending
may also be curtailed. Management has continued efforts to refine enhanced monitoring systems pertaining to the Banks CRE portfolio, with particular emphasis on construction and acquisition and development lending which comprises a material
portion of the Banks CRE portfolio. In addition to continued enhanced monitoring of this portion of the loan portfolio, management has curtailed lending to new acquisition and development projects and anticipates this component of the
portfolio to decline substantially over time.

The Bank has experienced growth of over 10% during the first nine months of 2008. However, overall growth
has now been purposely slowed in response to uncertainties with respect to the national economy, national and local real estate markets, the domestic interest rate environment and global currency markets. While the Banks overall asset base
increased approximately 10.5% during the first nine months of 2008, it should be noted that a sizeable portion of this growth was attributable to a relationship that has been established with Live Oak Bank, a newly chartered bank in eastern North
Carolina. The Bank has worked with this bank during its organization phase to originate loans to their existing customers and has agreed to sell these loans back to the new institution once they began operations.



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Managements Discussion and Analysis

September 30, 2008



At September 30, 2008, such loans had been reduced from a
high of over $80 million to approximately $40.2 million. Management had anticipated the entire transfer of these loans would commence in the second quarter of 2008 and be completed by the end of the fourth quarter. However, it is now expected that
will be allowed to retain these loans indefinitely. It is anticipated that this will be an ongoing relationship and that the Bank will continue to participate in the lending activities of Live Oak on a regular basis.

The Companys primary source of revenue is derived from interest income produced through traditional banking activities such as generating loans and earning
interest on securities. Additional sources of income are derived from fees on deposit accounts and from mortgage origination services. Deposit and loan growth as well as expansion of the Banks branch network have continued to be
managements primary goals to date. It is expected that expansion of the Companys geographic footprint will continue to be a primary focus for the foreseeable future. However, as discussed above, management has slowed the growth of the
Banks core loan portfolio in response to current economic trends. We expect a considerably slower growth rate over the next four to six quarters as the duration and depth of the current economic slowdown becomes more ascertainable.

In its first four years of operation, fourteen full-service branch offices have been opened. Managements business plan has been predicated upon the relatively
rapid growth and establishment of an initial branch network within the Companys primary delineated market area. As a part of this growth strategy, management expects to continue to open new branch offices to augment the current branch network
over at least the next two years while continuing to grow existing branches and markets. Additionally, management has begun to consider other avenues for expansion in addition to de novo branching. Assuming the effective execution of the
Companys current strategies, management expects its anticipated growth and expansion to have a favorable long-term impact on the Companys profitability and shareholder value. However, management does expect such growth to constrain
near-term earnings in and of itself and also presents unique managerial challenges. It remains managements opinion that attaining an above average growth rate while continuing to grow earnings is a sound and achievable business plan which
should enhance the Companys overall franchise value over time. To that end, the Company recently announced the expansion into the Hickory, North Carolina market.

Maintaining sound asset quality is another key focal point for the Company as it grows. To date, the Company has been able to maintain favorable asset quality ratios. However as a result of the current economic
environment, the Bank experienced an increase in nonperforming assets (nonaccuring loans and accruing loans past due 90 or more days) during the third quarter. This development is further discussed under the heading Asset Quality below. The
business of lending to small businesses and consumers carries with it significant credit risks, which must be continually managed. Management monitors asset quality and credit risk on an ongoing basis and fully expects to experience credit losses in
the future. While it is managements goal to minimize credit losses to the extent possible, as the Companys loan portfolio continues to grow and season, management expects loan losses to increase. Management continues to engage third
party consultants to assist in monitoring and evaluating the quality of the portfolio.

Financial Overview

The Company experienced continued asset growth during the first nine months of 2008. At September 30, 2008, the Companys assets totaled $670.2 million compared
to $606.5 million on December 31, 2007, an increase of $63.7 million or 10.5%. As discussed previously, management has proactively slowed overall growth in response to current economic conditions. However, we do expect to continue to grow both
existing retail offices as well as selectively adding new offices as opportunities to do so arise. Management expects to bring at least one or two new de novo branch offices online during 2008 and expects a portion of growth later in the year to be
generated from these new offices. As noted earlier, the Company recently announced intentions to enter the Hickory, N.C. market. This office commenced operation in October of 2008. At September 30, 2008, investment securities increased by $4.6
million or 7.5%, from $61.1 million at December 31, 2007 to $65.7 million at September 30, 2008. During the first nine months of 2008, gross loans increased by $48.8 million, or 9.4% from $521.9 million on December 31, 2007 to $570.7
million at September 30, 2008. During the same period, deposits remained relatively constant $529.4 million on September 30, 2008 compared with $529.1 million at the end of 2007. The increase in loans was the major factor in the
Companys increase in total borrowings which increased by $63.2 million, or 258.0% from $24.5 million at December 31, 2007 to $87.7 million at September 30, 2008. Managements goal remains to attain overall balanced growth of the
Companys balance sheet to the extent possible. At September 30, 2008, net loan growth had out



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



paced deposit growth by $48.5 million, principally as a result
of the loans currently being warehoused for Live Oak Bank as described elsewhere in this discussion. A sizeable portion of these loans is expected to be sold to Live Oak during 2009. The Companys loan to asset ratio decreased slightly to
85.1 % from 86.1% at December 31, 2007, which is above managements targeted range of 75% to 82%. Excluding these loans, the ratio of loans to assets would have been 79.2%.

During the third quarter of 2008, the Companys net income decreased $432 thousand or 45.9% as compared with the same period during 2007. The primary causal factor
of this decline was the severe decline in the Banks net interest margin as a result of the dramatic reduction in short term interest rates orchestrated by the Federal Reserve beginning in the fourth quarter of 2007. As compared with the
Banks net interest margin in the third quarter of 2007, the Banks margin for the same period in 2008 declined by more than 80 basis points. With the current environment of expected future rate decreases, management expects margins to
continue to decrease modestly over the remainder of 2008. Margin compression based on the current low rate environment and the unusually high CD rates being paid by competitors within the Banks markets are expected to limit the recovery of the
Banks margins until markets settle further and/or short term interest rates begin to rise. Basic and diluted earnings per share totaled $0.10 for the third quarter of 2008. This compares with $0.19 and $0.18 respectively for the third quarter
of 2007. Earnings also decreased for the first nine months of 2008 totaling $1.8 million, or $0.36 per basic share and $0.35 per diluted share. This compares with net income of $2.8 million or $0.55 per average common share and $0.51 per diluted
share for the nine months ended September 30, 2007 representing a decrease of $954 thousand or 34.6%.

Investments

The Company maintains a portfolio of investment securities as part of its asset/liability and liquidity management programs which emphasize effective yields and
maturities to match its needs. The composition of the investment portfolio is examined periodically and appropriate realignments are initiated to meet liquidity and interest rate sensitivity needs for the Company.

Held to maturity securities are bonds, notes and debentures for which the Company has the positive intent and ability to hold to maturity and which are reported at cost,
adjusted by premiums and discounts that are recognized in interest income using the interest method over the period to maturity or to call dates. Investments in held to maturity securities at September 30, 2008 and December 31, 2007 are as
follows:



|                                                                                                                                                                                                                                                                                                                                       |  |                    |         |                   |   |                  |  |           |     |  |   |       
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------- | ----------------- | - | ---------------- |  | --------- | --- |  | - | ------
|                                                                                                                                                                                                                                                                                                                                       |  | September 30, 2008 |         | December 31, 2007
|                                                                                                                                                                                                                                                                                                                                       |  | AmortizedCost      |         | Fair Value        |   | AmortizedCost    |  | FairValue
|                                                                                                                                                                                                                                                                                                                                       |  |                    |         |                  
|Municipal securities                                                                                                                                                                                                                                                                                                                   |  | $                  | 825     |                   | $ | 829              |  | $         |    |  | $ |      
|                                                                                                                                                                                                                                                                                                                                       |  |                    |         |                   |   |                  |  |           |     |  |   |       
|                                                                                                                                                                                                                                                                                                                                      
|Available for sale securities are reported at fair value and consist of bonds, notes, debentures and certain equity securities not classified as trading securities or as held to
maturity securities. Investments in available for sale securities at September 30, 2008 and December 31, 2007 are as follows (dollars in thousands):
|                                                                                                                                                                                                                                                                                                                                       | 
|                                                                                                                                                                                                                                                                                                                                       |  | September 30, 2008
|                                                                                                                                                                                                                                                                                                                                       |  | AmortizedCost      |         | UnrealizedGains   |   | UnrealizedLosses |  | FairValue
|Available for Sale                                                                                                                                                                                                                                                                                                                     |  |                    |         |                   |   |                  |  |           |     |  |   |       
|U.S. Government agencies                                                                                                                                                                                                                                                                                                               |  | $                  | 14,961  |                   | $ | 81               |  | $         | 65  |  | $ | 14,977
|Government-sponsored enterprises                                                                                                                                                                                                                                                                                                       |  |                    | 2,000   |                   |   | 1                |  |           |    |  |   | 2,001 
|Mortgage backed securities                                                                                                                                                                                                                                                                                                             |  |                    | 49,082  |                   |   | 88               |  |           | 445 |  |   | 48,725
|                                                                                                                                                                                                                                                                                                                                       |  |                    |         |                   |   |                  |  |           |     |  |   |       
|                                                                                                                                                                                                                                                                                                                                       |  |                    | $66,043 |                   | $ | 170              |  | $         | 510 |  | $ | 65,703
|                                                                                                                                                                                                                                                                                                                                       |  |                    |         |                   |   |                  |  |           |     |  |   |       



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Managements Discussion and Analysis

September 30, 2008





|                                 |  |                   |        |                 |   |                  |  |           |     |  |   |       
|-------------------------------- |  | ----------------- | ------ | --------------- | - | ---------------- |  | --------- | --- |  | - | ------
|                                 |  | December 31, 2007
|                                 |  | AmortizedCost     |        | UnrealizedGains |   | UnrealizedLosses |  | FairValue
|Available for Sale               |  |                   |        |                 |   |                  |  |           |     |  |   |       
|U.S. Government agencies         |  | $                 | 16,972 |                 | $ | 100              |  | $         | 306 |  | $ | 16,766
|Government-sponsored enterprises |  |                   | 8,485  |                 |   | 82               |  |           | 3   |  |   | 8,564 
|Mortgage backed securities       |  |                   | 35,851 |                 |   | 128              |  |           | 194 |  |   | 35,785
|                                 |  |                   |        |                 |   |                  |  |           |     |  |   |       
|                                 |  | $                 | 61,308 |                 | $ | 310              |  | $         | 503 |  | $ | 61,115
|                                 |  |                   |        |                 |   |                  |  |           |     |  |   |       

Unrealized holding gains and losses, net of tax, on available for sale securities are reported as a net amount in
a separate component of stockholders equity. Realized gains and losses on the sale of available for sale securities are determined using the specific identification method. Premiums and discounts are recognized in interest income using the
interest method over the period to maturity or to call dates.

Declines in the fair value of individual held to maturity and available for sale securities
below cost that are other than temporary are reflected as write-downs of the individual securities to fair value. Related write-downs are included in earnings as realized losses. To date the Company has experienced no declines in the value of
securities that were considered to be other than temporary in nature.

The following table details unrealized losses and related fair values in the
Companys available for sale investment securities portfolio. This information is aggregated by the length of time that individual securities have been in a continuous unrealized loss position as of September 30, 2008 (dollars in
thousands).



|                                      |  |                     |        |                   |   |           |  |                  |       |           |   |                  |  |   |        |  |   |    
|------------------------------------- |  | ------------------- | ------ | ----------------- | - | --------- |  | ---------------- | ----- | --------- | - | ---------------- |  | - | ------ |  | - | ---
|                                      |  | Less Than 12 Months |        | 12 Months or More |   | Total    
|                                      |  | FairValue           |        | UnrealizedLosses  |   | FairValue |  | UnrealizedLosses |       | FairValue |   | UnrealizedLosses
|U.S. Government agencies              |  | $                   | 4,165  |                   | $ | 47        |  | $                | 5,889 |           | $ | 18               |  | $ | 10,054 |  | $ | 65 
|Mortgage backed securities            |  |                     | 26,310 |                   |   | 445       |  |                  |      |           |   |                 |  |   | 26,310 |  |   | 445
|                                      |  |                     |        |                   |   |           |  |                  |       |           |   |                  |  |   |        |  |   |    
|Total temporarily impaired securities |  | $                   | 30,475 |                   | $ | 492       |  | $                | 5,889 |           | $ | 18               |  | $ | 36,364 |  | $ | 510
|                                      |  |                     |        |                   |   |           |  |                  |       |           |   |                  |  |   |        |  |   |    

Nine individual securities were in a continuous unrealized loss position for twelve months or more at
September 30, 2008. All unrealized losses on investment securities are considered by management to be temporary in nature. Given the credit ratings on these investment securities, the short duration of the individual securities, and the
Companys ability and intent to hold these securities to maturity, these securities are not considered to be permanently impaired.

Loans

Net loans outstanding (excluding loans held for sale) were $560.2 million on September 30, 2008, compared to $509.3 million on
December 31, 2007. The major components of loans on the balance sheet at September 30, 2008 and December 31, 2007 are illustrated in the following table (dollars in thousands):



|                                |  |                   |         |   |                  |   |         |  
|------------------------------- |  | ----------------- | ------- | - | ---------------- | - | ------- | -
|                                |  | September 30,2008 |         |   | December 31,2007 |  
|Real estate:                    |  |                   |         |   |                  |   |         |  
|Construction and development    |  | $                 | 171,176 |   |                  | $ | 159,127 |  
|1-4 family residential          |  |                   | 111,267 |   |                  |   | 99,692  |  
|Multifamily                     |  |                   | 8,675   |   |                  |   | 5,768   |  
|Nonfarm, nonresidential         |  |                   | 179,419 |   |                  |   | 164,940 |  
|                                |  |                   |         |   |                  |   |         |  
|Total real estate               |  |                   | 470,537 |   |                  |   | 429,527 |  
|Commercial and industrial loans |  |                   | 91,805  |   |                  |   | 80,867  |  
|Consumer                        |  |                   | 6,931   |   |                  |   | 6,514   |  
|                                |  |                   |         |   |                  |   |         |  
|                                |  |                   | 569,273 |   |                  |   | 516,908 |  
|Allowance for loan losses       |  |                   | (9,052  | ) |                  |   | (7,571  | )
|                                |  |                   |         |   |                  |   |         |  
|                                |  | $                 | 560,221 |   |                  | $ | 509,337 |  
|                                |  |                   |         |   |                  |   |         |  



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



Of the $50.9 million or 10.0% increase in net loans,
approximately $40.2 or 79.0% of this increase resulted from the previously discussed warehousing arrangement with Live Oak Bank. A sizeable portion of these loans are expected to be sold to that bank during 2009. Management expects that loan growth
will be more muted during the remainder of 2008 as a result of the economic uncertainties expected to persist for at least the duration of 2008.

Deposits

One of the primary goals for the Company during 2008 and beyond is to increase non-CD deposits as a percentage of total
deposits. By so doing, management believes this will enhance both the profitability and franchise value of the Company and will further solidify the banking relationships of the Banks customer base. During the first half of 2008, significant
progress has been made toward this goal. At September 30, 2008, approximately 57.3% of the Banks total deposits were comprised of CDs. At the same date one year ago, that percentage amounted to 65.8%. Total deposits on September 30,
2008 were $529.4 million compared to $529.1 million on December 31, 2007, an increase of $300 thousand or 0.1%. Demand deposits increased $5.4 million or 10.6% during the nine months of 2008, to end the period at $56.4 million while NOW
accounts increased by $7.1 million or 14.0%. Through the first nine months of 2008, savings account balances increased by $21.9 million or 41.3% to end the period at $75.0 million compared to $53.0 million at December 31, 2007. Money market
account balances increased by $10.5 million or $39.7% for the nine months ended September 30, 2008 compared to $26.6 at December 31, 2007. Certificates of deposit were the deposit category with a decrease during the first nine months of
2008, decreasing $44.6 million or 12.8%. Certificates under $100 thousand decreased by $20.3 million or 11.3%, while jumbo CDs decreased $24.3 million or 14.4%. As a result, the Companys DDA to total deposit ratio increased slightly from 9.7%
at December 31, 2007 to 10.7% at September 30, 2008 while the Companys CD to total deposit ratio decreased to 57.3% from 65.8% during the same period.

Borrowings

As of September 30, 2008, the Company
had total borrowings of $87.7 million compared to $24.5 million at December 31, 2007, an increase of $63.2 million or 258.0%. Advances from the Federal Home Loan Bank of Atlanta increased by $57.0 million or 380.0%. The Company had $10.5
million of federal funds purchased at September 30, 2008 compared to $7.9 million at December 31, 2007, an increase of $2.6 million or 32.9% while securities sold under agreements to repurchase balances were $1.2 million at
September 30, 2008, down from $1.5 million at December 31, 2007. Also, during the third quarter of 2008, the parent company, 1stFinancial
Services Corporation, established a $10 million revolving credit line with an upstream correspondent bank to be utilized for various corporate purposes. At September 30, 2008, $4.0 million was advanced on this line of credit with $3.5 million
of that amount being paid down to the Bank in the form of additional capital. As discussed previously, the Company has entered into a relationship with Live Oak Bank to warehouse a portion of their loan production. The Bank has relied primarily upon
FHLB advances to fund these loans. At September 30, 2008 these loans totaled approximately $40.2 million and accounted for the majority of the usage of the FHLB borrowings.

Stockholders Equity

Principally as a result of the Companys earnings for the first nine months of
2008, stockholders equity increased to $48.0 million or approximately 7.2% of total assets at September 30, 2008 as compared to $46.2 million or 7.6% of total assets at December 31, 2007. A $7 thousand decrease in unrealized losses
on available for sale securities (net of income taxes) and an increase due to a reclassification adjustment for gains included in net income of $103 thousand (net of income taxes), and a $38 thousand increase resulting from recognition of stock
compensation expense were the other factors contributing to the change in stockholders equity.

With the completion of the holding company reorganization, in which 1stFinancial Services Corporation became our parent bank holding
company in the second quarter of 2008, the Company has additional options for generating new equity infusions needed for future growth. Management expected to require an infusion of new capital during 2008 based on current growth projections. Over
the past two years, this infusion was expected to be in the form of Trust Preferred securities. However, during the past nine months, the Trust Preferred market has been severely disrupted. While Trust Preferreds remain an option, management is
currently pursuing additional alternatives which may provide more favorable terms.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



One capital option is the recently enacted TARP Capital Purchase
Program. On October 14, 2008, the United States Treasury announced a voluntary Capital Purchase Program under which the Treasury will purchase up to $250 billion of senior preferred shares from qualifying financial institutions. It is our
understanding that participation in this program will be strictly limited to healthy banks only. The Company was one of the first community banks in the Southeastern United States to receive preliminary approval to participate, and was approved to
sell to the Treasury approximately $16.4 million of senior preferred shares with a dividend rate of 5% for the first five years. The preferred shares would increase the Banks risk weighted capital ratio from 10.8% at September 30, 2008 to
approximately 13.8%. The preferred stock would represent a relatively inexpensive source of capital and will provide the Company with additional growth opportunities. In addition to the preferred stock, the Treasury would receive common stock
warrants with a 10-year life equal to 15% of the face amount of the preferred stock. Management believes the dilutive effects of the common stock warrants would not be material. In addition, the terms of the preferred stock would restrict the
Companys ability to repurchase its common stock or to increase the dividends paid on its common stock while the preferred stock is outstanding, in each case unless prior regulatory approval is received. The Company is considering whether to
act on the approval and participate in the Capital Purchase Program.

Plans are also being formed as to the form and amount of an additional equity
infusion. Given the state of equity markets currently, a capital raise during the next six months is expected to be limited. Management currently anticipates any such capital raising effort which could occur in the next six months to range between
$5 million to $10 million. While management expects any capital raise conducted any time in the future to be successfully completed, it should be noted that if additional equity cannot be generated, this could adversely affect the rate of future
growth of the Company.

As discussed above, at September 30, 2008, the Company had initiated a corporate line of credit and had borrowed funds in the
amount of $4 million with $3.5 million being paid down to the subsidiary Bank in the form of additional capital. This resulted in the Banks total risk weighted capital ratio remaining over 10% and the Bank remaining well capitalized from a
regulatory perspective. At September 30, 2008, the Companys total risk weighted asset capital ratio was 10.09% while the Banks ratio was 10.80%.

Although an initial annual cash dividend was paid during the fourth quarter of 2007, management expects the Company to maintain an above average growth rate for the foreseeable future. Therefore, it is anticipated that future cash
dividends, if any, will continue to be nominal and that the majority of the Companys earnings will be retained to support expected growth. No cash dividends have been declared to date during 2008. The actual capital amounts and ratios for the
Company and the Bank at September 30, 2008 are presented in the following table (dollars in thousands):



|                                         |  |        |        |       |                        |   |        |                                                                      |        |  |      |        |  |       |        |  |       |  
|---------------------------------------- |  | ------ | ------ | ----- | ---------------------- | - | ------ | -------------------------------------------------------------------- | ------ |  | ---- | ------ |  | ----- | ------ |  | ----- | -
|                                         |  | Actual |        |       | MinimumCapitalRequired |   |        | MinimumTo Be WellCapitalized UnderPrompt CorrectiveAction Provisions |       
|                                         |  | Amount |        | Ratio |                        |   | Amount |                                                                      | Ratio  |  |      | Amount |  | Ratio |       
|September 30, 2008                       |  |        |        |       |                        |   |        |                                                                      |        |  |      |        |  |       |        |  |       |  
|Total Capital (to Risk-Weighted Assets)  |  |        |        |       |                        |   |        |                                                                      |        |  |      |        |  |       |        |  |       |  
|Company                                  |  | $      | 55,034 |       | 10.09                  | % |        | $                                                                    | 43,653 |  | 8.00 | %      |  | $     | 54,566 |  | 10.00 | %
|Bank                                     |  | $      | 58,908 |       | 10.80                  | % |        | $                                                                    | 43,653 |  | 8.00 | %      |  | $     | 54,566 |  | 10.00 | %
|Tier I Capital (to Risk-Weighted Assets) |  |        |        |       |                        |   |        |                                                                      |        |  |      |        |  |       |        |  |       |  
|Company                                  |  | $      | 48,186 |       | 8.83                   | % |        | $                                                                    | 21,826 |  | 4.00 | %      |  | $     | 32,739 |  | 6.00  | %
|Bank                                     |  | $      | 52,060 |       | 9.54                   | % |        | $                                                                    | 21,826 |  | 4.00 | %      |  | $     | 32,739 |  | 6.00  | %
|Tier I Capital (to Average Assets)       |  |        |        |       |                        |   |        |                                                                      |        |  |      |        |  |       |        |  |       |  
|Company                                  |  | $      | 48,186 |       | 7.19                   | % |        | $                                                                    | 26,821 |  | 4.00 | %      |  | $     | 33,526 |  | 5.00  | %
|Bank                                     |  | $      | 52,060 |       | 7.76                   | % |        | $                                                                    | 26,821 |  | 4.00 | %      |  | $     | 33,526 |  | 5.00  | %



18



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



Asset Quality

The provision for loan losses charged to operations during the first nine months of 2008 totaled $2.2 million, while net charge offs during the period amounted to $759
thousand, resulting in a net increase in the allowance for loan losses of $1.5 million to $9.1 million or 1.59% of period end loans, excluding loans held for sale at September 30, 2008. The increase in the loan loss allowance was due to an
increase in outstanding loans resulting from the continued strong loan demand experienced by the Company and the additional loan volume resulting for the aforementioned arrangement with Live Oak Bank. At September 30, 2008, the Company had
approximately $4.0 million in loans 30 to 90 days delinquent, non-accruing loans totaling $8.7 million, $75 thousand in foreclosed assets and no repossessed personal property. At September 30, 2008, there were no loans past due over 90 days and
still accruing interest. Management has taken what it believes to be a relatively aggressive stance on identifying problems with credits and placing them on non-accruing status relatively early in its evaluation process. As a result, non-performing
assets increased during the third quarter. Management has evaluated these credits and their ultimate collectibility and believes that any potential losses which may be incurred on these credits in the future are manageable and are incorporated into
its analysis of the adequacy of the Banks existing allowance for loan losses.

Impaired Loans. Loans for which it is probable that the
ultimate payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures impairment in accordance with
SFAS 114, Accounting by Creditors for Impairment of a Loan, (SFAS 114). The fair value of impaired loans is estimated using one of several methods including collateral value, market value of similar debt, enterprise value, liquidation
value and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investment in such loans. At September 30, 2008,
substantially all of the total impaired loans were evaluated based on the fair value of the collateral. In accordance with SFAS 157, impaired loans where an allowance is established based on the fair value of collateral require classification in the
fair value hierarchy. Collateral values for impaired loans are estimated using Level 2 inputs based on customized discounting criteria. At September 30, 2008, impaired loans totaled $8.7 million. Allocations within the Banks allowance for
loan losses specifically ascribed to these individual loans totaled $1.5 million in the aggregate.



19



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



Credit loss experience for the nine months ended
September 30, 2008 and 2007 is presented below (dollars in thousands).

Volume and Rate Variance Analysis

(dollars in thousands)



|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|-------------------------------------------------------------------------- |  | ---------------------------------------- | ------ | - | -------------------------- | - | ------ | ----- |  | - | ------- | - |  | --------- | ----- | - | ----- | - | ----- | - |  | - | ----- | -
|                                                                           |  | For the Three Months Ended September 30, |       
|                                                                           |  | 2008 vs. 2007                            |        |   | 2007 vs. 2006              |  
|                                                                           |  | Increase (Decrease) Due to               |        |   | Increase (Decrease) Due to |  
|                                                                           |  | Rate(1)                                  |        |   | Volume(1)                  |   |        | Total |  |   | Rate(1) |   |  | Volume(1) |       |   | Total |  
|Interest Income:                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Loans, including loans held for sale                                       |  |                                          | (6,645 | ) |                            |   | 5,642  |       |  |   | (1,003  | ) |  |           | 105   |   |       |   | 2,637 |   |  |   | 2,742 |  
|Investment securities                                                      |  |                                          | (145   | ) |                            |   | (73    | )     |  |   | (218    | ) |  |           | 123   |   |       |   | 40    |   |  |   | 163   |  
|Federal funds sold                                                         |  |                                          | (24    | ) |                            |   |       |       |  |   | (24     | ) |  |           | 17    |   |       |   | (275  | ) |  |   | (258  | )
|Interest-earning cash deposits                                             |  |                                          |       |   |                            |   | 5      |       |  |   | 5       |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest income                                                      |  |                                          | (6,814 | ) |                            |   | 5,574  |       |  |   | (1,240  | ) |  |           | 245   |   |       |   | 2,402 |   |  |   | 2,647 |  
|                                                                           |  |                                          |        |   |                            |  
|Interest expense:                                                          |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|NOW accounts                                                               |  |                                          | (130   | ) |                            |   | 26     |       |  |   | (104    | ) |  |           | 76    |   |       |   | 18    |   |  |   | 94    |  
|Money markets                                                              |  |                                          |       |   |                            |   | 109    |       |  |   | 109     |   |  |           | 60    |   |       |   | 4     |   |  |   | 64    |  
|Savings deposits                                                           |  |                                          | (34    | ) |                            |   | 119    |       |  |   | 85      |   |  |           | 44    |   |       |   | 7     |   |  |   | 51    |  
|Time deposits                                                              |  |                                          | (1,372 | ) |                            |   | (25    | )     |  |   | (1,397  | ) |  |           | 850   |   |       |   | 149   |   |  |   | 999   |  
|Federal funds purchased and securities sold under agreements to repurchase |  |                                          | (98    | ) |                            |   | 49     |       |  |   | (49     | ) |  |           | 9     |   |       |   | 97    |   |  |   | 106   |  
|Borrowings                                                                 |  |                                          |       |   |                            |   | 375    |       |  |   | 375     |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest expense                                                     |  |                                          | (1,634 | ) |                            |   | 653    |       |  |   | (981    | ) |  |           | 1,039 |   |       |   | 275   |   |  |   | 1,314 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Net increase in net interest income                                        |  | $                                        | (5,180 | ) |                            | $ | 4,921  |       |  | $ | (259    | ) |  | $         | (794  | ) |       | $ | 2,127 |   |  | $ | 1,333 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|                                                                           | 
|                                                                           |  | For the Nine Months Ended September 30,  |       
|                                                                           |  | 2008 vs. 2007                            |        |   | 2007 vs. 2006              |  
|                                                                           |  | Increase (Decrease) Due to               |        |   | Increase (Decrease) Due to |  
|                                                                           |  | Rate(1)                                  |        |   | Volume(1)                  |   |        | Total |  |   | Rate(1) |   |  | Volume(1) |       |   | Total |  
|                                                                           |  |                                          |        |   |                            |  
|Interest Income:                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Loans, including loans held for sale                                       |  | $                                        | (1,080 | ) |                            | $ | 1,488  |       |  |   | 408     |   |  | $         | 1,148 |   |       | $ | 7,625 |   |  |   | 8,773 |  
|Investment securities                                                      |  |                                          | (316   | ) |                            |   | (536   | )     |  |   | (852    | ) |  |           | 388   |   |       |   | 327   |   |  |   | 715   |  
|Federal funds sold                                                         |  |                                          | (18    | ) |                            |   | 1      |       |  |   | (17     | ) |  |           | (443  | ) |       |   | 104   |   |  |   | (339  | )
|Interest-earning cash deposits                                             |  |                                          |       |   |                            |   |       |       |  |   |        |   |  |           | 13    |   |       |   | (39   | ) |  |   | (26   | )
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest income                                                      |  |                                          | (1,414 | ) |                            |   | 953    |       |  |   | (461    | ) |  |           | 1,106 |   |       |   | 8,017 |   |  |   | 9,123 |  
|                                                                           |  |                                          |        |   |                            |  
|Interest expense:                                                          |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|NOW accounts                                                               |  | $                                        | (288   | ) |                            | $ | 93     |       |  |   | (195    | ) |  |           | 169   |   |       |   | 159   |   |  |   | 328   |  
|Money markets                                                              |  |                                          | 9      |   |                            |   | 326    |       |  |   | 335     |   |  |           | 107   |   |       |   | 3     |   |  |   | 110   |  
|Savings deposits                                                           |  |                                          | (98    | ) |                            |   | 289    |       |  |   | 191     |   |  |           | 9     |   |       |   | 142   |   |  |   | 151   |  
|Time deposits                                                              |  |                                          | (2,977 | ) |                            |   | 1,498  |       |  |   | (1,479  | ) |  |           | 1,152 |   |       |   | 3,083 |   |  |   | 4,235 |  
|Federal funds purchased and securities sold under agreements to repurchase |  |                                          | (225   | ) |                            |   | 116    |       |  |   | (109    | ) |  |           | 6     |   |       |   | 261   |   |  |   | 267   |  
|Borrowings                                                                 |  |                                          |       |   |                            |   | 938    |       |  |   | 938     |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest expense                                                     |  |                                          | (3,579 | ) |                            |   | 3,260  |       |  |   | (319    | ) |  |           | 1,443 |   |       |   | 3,648 |   |  |   | 5,091 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Net increase in net interest income                                        |  | $                                        | 2,165  |   |                            | $ | (2,307 | )     |  | $ | (142    | ) |  | $         | (337  | ) |       | $ | 4,369 |   |  | $ | 4,032 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  



|(1) | The changes for each category of income and expense are divided between the portion of change attributable to the variance in rate or volume for that category. The amount of
change that cannot be seperated is all allocated to each variance proportionately.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The level of the allowance for loan losses is
established based upon managements evaluation of portfolio composition, current and projected national and local economic conditions and results of independent reviews of the loan portfolio by internal and external examination. Management
recognizes the inherent risk associated with commercial and consumer lending, including whether or not a borrowers actual results of operations will correspond to those projected by the borrower when the loan was funded; economic factors such
as the number of housing starts and fluctuations in interest rates; possible depression of collateral values; and completion of projects within the original cost and time estimates. As a result, management continues to actively monitor the
Companys asset quality and lending policies. Management currently believes that its loan portfolio is diversified so that a downturn in a particular market or industry will not have a crucially material impact on the loan portfolio as a whole
or the Companys financial condition. However, given the current conditions observed within real estate markets in other parts of the country, no assurances can be given that if local real estate markets undergo similar conditions, potential
losses sustained by the Company may not be material.

Based on its current evaluation and upon data presently available, management believes that the
Companys allowance for loan losses is adequate.



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



Results of Operations

Three Months Ended September 30, 2008 compared to the Three Months Ended September 30, 2007

Net income for the third quarter of 2008 totaled $510 thousand or $0.10 per basic weighted average share and diluted share compared to $942 thousand or $0.19 per basic
share and $0.18 per diluted share for the three months ended September 2007, representing a decrease of $432 thousand or 45.9%. Interest income for the third quarter of 2008 totaled $9.5 million while interest expense totaled $4.2 million, resulting
in net interest income of $5.3 million for the quarter. This compares unfavorably to the same period in 2007 when interest income totaling $10.8 million, combined with interest expense of $5.2 million, resulted in net interest income of $5.6
million. The decline in net interest income quarter over quarter is attributable to the decline in the Companys net interest margin, which decreased from 4.11% for the three months ended September 30, 2007 to 3.30% for the three months
ended September 30, 2008.

Provisions for loan losses for the quarter totaled $615 thousand compared to $860 thousand for the same period in 2007. Due
to fluctuations in net income resulting from varying growth rates and differing marginal tax rates between 2008 and 2007, management uses a non-GAAP measure, pre-tax, pre-provision income, to provide a more comparable view of earnings. During the
third quarter of 2008, pre-tax, pre-provision income totaled $1.4 million with provision for loan losses amounting to $615 thousand and tax expense totaling $236 thousand. This compares to $2.4 million, $860 thousand and $602 thousand, respectively
for the same period in 2007, resulting in a decrease in pre-tax, pre-provision income of $1.0 million or 41.6%.

Noninterest income for the quarter
amounted to $1.1 million and was comprised primarily of fees generated from mortgage origination activities of $319 thousand and service charges on deposit accounts of $596 thousand. This compares with the third quarter of 2007 during which time the
Company generated noninterest income of $1.1 million, of which $579 thousand was generated through mortgage origination activities and $462 thousand resulted from fees and service charges on deposit accounts. Noninterest income for the three months
ended September 30, 2008 also included $130 thousand from increases in the cash surrender value of bank-owned insurance policies and $12 thousand in realized gains from the sale of investment securities. Noninterest expense amounted to $5.1
million during the quarter, comprised of compensation expense totaling approximately $2.4 million which account for 47.1% of noninterest expenditures. Marketing and advertising expenses during the quarter totaled $210 thousand, which declined
slightly from the same quarter in 2007. Data processing and telecommunication expense amounted to $293 thousand or 5.8% of noninterest expense for the period while occupancy expense increased to $384 thousand or 7.6%. Income tax expense for the
quarter ended September 30, 2008 totaled $236 thousand compared to $602 thousand for the same period in 2007.

Nine Months Ended
September 30, 2008 compared to the Nine Months Ended September 30, 2007

Year to date earnings for the period ended September 30,
2008 totaled $1.8 million or $0.36 per basic weighted average share and $0.35 per diluted share as compared to $2.8 million or $0.55 per basic weighted average share and $0.51 per diluted share for the first nine months of 2007. Pre-tax,
pre-provision income, a non-GAAP financial measure, decreased by $1.9 million or 28% during the first nine months of 2008 as compared with the same period in 2007. During this period, pre-tax, pre-provision income amounted to $5.0 million with
provision for loan losses totaling $2.2 million and tax expense amounting to $919 thousand resulting in net income of $1.8 million for the first nine months of 2008. During the same period of 2007, pre-tax, pre-provision income totaled $6.9 million
with provision for loan losses totaling $2.4 million and tax expense amounting to $1.8 million resulting in net income of $2.8 million or $0.55 per basic weighted average share and $0.51 per diluted share.

Total interest income of $29.3 million for the nine months ended September 30, 2008 combined with total interest expense of $14.0 million for the same period,
generated net interest income of $15.3 million, a decrease of $165 thousand or approximately 1.1% over the same period during 2007. The modest decrease in net interest income experienced during the first nine months of 2008 resulted primarily from
the decline in the Companys net interest margin from 4.05% for the nine months ended September 30, 2007 to 3.25% for the nine months ended September 30, 2008. Noninterest income for the nine months totaled $3.7 million as compared
with $3.3 million for the same period in 2007, representing an increase of approximately $451 thousand or 13.8%. The two primary drivers of this increase were income derived from mortgage loan originations and service charges on deposit accounts,
which



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



contributed $1.6 million and $1.4 million, respectively, to
noninterest income while increases in the cash surrender value of bank-owned life insurance and net realized gains on the sale of investment securities contributed $382 thousand and $147, respectively. During the same period in 2007, income derived
from mortgage loan originations of $1.8 million and service charges on deposits of $1.3 million were the major components of noninterest income.

Noninterest expenses during the first nine months of 2008 increased by $2.3 million or 19.2% as compared with the same period in 2007. Increases of approximately $805 thousand or 12.8% in personnel costs accounted for nearly one third of
the total increase in overhead. This increase was due to the expansion of the Companys branch network and overall growth. Occupancy and equipment expenses increased $260 thousand or 31.4%. Data processing costs increased $85 thousand or 6.7%.
Professional fees increased $465 thousand or 99.4% during the first nine months of 2008 as compared with 2007. Income tax expense for the nine months ended September 30, 2008 totaled $919 thousand compared to $1.8 million for the same period in
2007.



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2008



The following tables illustrate the Companys yield on
earning assets and cost of funds for the three and nine month periods ending September 30, 2008 and 2007.

Average Balances and Net Interest Income

(Dollars in thousands)



|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|-------------------------------------------------------------------------------- |  | ---------------------------------------- | ------- | - | ------------------------- | - | ------------------ |  | ---- | -------------- |  | - | ------------------------- | - | ------------------ | - | ------ |  | ---- | -
|                                                                                 |  | For the Three Months Ended September 30, |        
|                                                                                 |  | 2008                                     |         |   | 2007                      |  
|                                                                                 |  | AverageBalance                           |         |   | InterestIncome/Expense(2) |   | AverageRate (1)(3) |  |      | AverageBalance |  |   | InterestIncome/Expense(2) |   | AverageRate (1)(3) |  
|Interest-earning assets:                                                         |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Loans, including loans held for sale                                             |  | $                                        | 578,199 |   |                           | $ | 8,789              |  | 6.08 | %              |  | $ | 469,819                   |   |                    | $ | 9,792  |  | 8.34 | %
|Investment securities                                                            |  |                                          | 64,277  |   |                           |   | 729                |  | 4.54 | %              |  |   | 70,375                    |   |                    |   | 947    |  | 5.38 | %
|Federal funds sold                                                               |  |                                          | 941     |   |                           |   |                   |  | 0.00 | %              |  |   | 1,854                     |   |                    |   | 24     |  | 5.18 | %
|Interest-earning cash deposits                                                   |  |                                          | 32      |   |                           |   | 5                  |  | 2.03 | %              |  |   | 28                        |   |                    |   |       |  | 5.17 | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total interest-earning assets                                                    |  |                                          | 643,449 |   |                           |   | 9,523              |  | 5.92 | %              |  |   | 542,076                   |   |                    |   | 10,763 |  | 7.94 | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Noninterest-earning assets:                                                      |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Cash and due from banks                                                          |  |                                          | 10,725  |   |                           |   |                    |  |      |                |  |   | 13,726                    |   |                    |   |        |  |      |  
|Property and equipment                                                           |  |                                          | 6,959   |   |                           |   |                    |  |      |                |  |   | 6,074                     |   |                    |   |        |  |      |  
|Interest receivable and other                                                    |  |                                          | 9,386   |   |                           |   |                    |  |      |                |  |   | 1,424                     |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total noninterest-earning assets                                                 |  |                                          | 27,070  |   |                           |   |                    |  |      |                |  |   | 21,224                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total assets                                                                     |  | $                                        | 670,519 |   |                           |   |                    |  |      |                |  | $ | 563,300                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Interest-bearing liabilities:                                                    |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|NOW accounts                                                                     |  |                                          | 59,928  |   |                           |   | 149                |  | 0.99 | %              |  |   | 54,285                    |   |                    |   | 253    |  | 1.86 | %
|Money markets                                                                    |  |                                          | 33,951  |   |                           |   | 233                |  | 2.75 | %              |  |   | 16,309                    |   |                    |   | 124    |  | 3.04 | %
|Savings deposits                                                                 |  |                                          | 73,134  |   |                           |   | 457                |  | 2.50 | %              |  |   | 50,611                    |   |                    |   | 372    |  | 2.94 | %
|Time deposits                                                                    |  |                                          | 323,432 |   |                           |   | 2,937              |  | 3.63 | %              |  |   | 325,551                   |   |                    |   | 4,334  |  | 5.33 | %
|Federal funds purchased/repurchase agreements                                    |  |                                          | 9,741   |   |                           |   | 65                 |  | 2.67 | %              |  |   | 8,459                     |   |                    |   | 114    |  | 5.39 | %
|Borrowings                                                                       |  |                                          | 56,989  |   |                           |   | 375                |  | 2.63 | %              |  |   |                          |   |                    |   |       |  |     | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total interest-bearing liabilities                                               |  |                                          | 557,175 |   |                           |   | 4,216              |  | 3.03 | %              |  |   | 455,215                   |   |                    |   | 5,197  |  | 4.57 | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Noninterest-bearing liabilities:                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Demand deposits                                                                  |  |                                          | 58,823  |   |                           |   |                    |  |      |                |  |   | 56,474                    |   |                    |   |        |  |      |  
|Interest payable and other                                                       |  |                                          | 4,888   |   |                           |   |                    |  |      |                |  |   | 6,034                     |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total noninterest-bearing liabilities                                            |  |                                          | 63,711  |   |                           |   |                    |  |      |                |  |   | 62,508                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total liabilities                                                                |  |                                          | 620,886 |   |                           |   |                    |  |      |                |  |   | 517,723                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Stockholders equity                                                             |  |                                          | 49,633  |   |                           |   |                    |  |      |                |  |   | 45,577                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total liabilities and stockholders equity                                       |  | $                                        | 670,519 |   |                           |   |                    |  |      |                |  | $ | 563,300                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Net interest income and interest rate spread                                     |  |                                          |         |   |                           | $ | 5,307              |  | 2.89 | %              |  |   |                           |   |                    | $ | 5,566  |  | 3.38 | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Net yield on average interest-earning assets                                     |  |                                          |         |   |                           |   |                    |  | 3.30 | %              |  |   |                           |   |                    |   |        |  | 4.11 | %
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |  
|Ratio of average interest-earning assets to average interest-bearing liabilities |  |                                          | 115.48  | % |                           |   |                    |  |      |                |  |   | 119.08                    | % |                    |   |        |  |      |  
|                                                                                 |  |                                          |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  



|(1) | Annualized
|--- | ----------

|(2) | Interest income includes deferred loan fees
|--- | -------------------------------------------

|(3) | For amounts under $1 yields are calculated using actual interest income and actual average asset totals not rounded values
|--- | --------------------------------------------------------------------------------------------------------------------------



23



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and
Analysis

September 30, 2008



Average Balances and Net Interest Income

(Dollars in thousands)



|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|-------------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ------------------------- | - | ------------------ |  | ---- | -------------- |  | - | ------------------------- | - | ------------------ | - | ------ |  | ---- | -
|                                                                                 |  | For the Nine Months Ended September 30, |        
|                                                                                 |  | 2008                                    |         |   | 2007                      |  
|                                                                                 |  | AverageBalance                          |         |   | InterestIncome/Expense(2) |   | AverageRate (1)(3) |  |      | AverageBalance |  |   | InterestIncome/Expense(2) |   | AverageRate (1)(3) |  
|Interest-earning assets:                                                         |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Loans, including loans held for sale                                             |  | $                                       | 567,439 |   |                           | $ | 27,242             |  | 6.40 | %              |  | $ | 433,177                   |   |                    | $ | 26,834 |  | 8.26 | %
|Investment securities                                                            |  |                                         | 59,998  |   |                           |   | 2,048              |  | 4.55 | %              |  |   | 74,969                    |   |                    |   | 2,900  |  | 5.16 | %
|Federal funds sold                                                               |  |                                         | 734     |   |                           |   | 11                 |  | 2.00 | %              |  |   | 719                       |   |                    |   | 28     |  | 5.19 | %
|Interest-earning cash deposits                                                   |  |                                         | 34      |   |                           |   | 1                  |  | 3.92 | %              |  |   | 25                        |   |                    |   | 1      |  | 5.33 | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total interest-earning assets                                                    |  |                                         | 628,205 |   |                           |   | 29,302             |  | 6.22 | %              |  |   | 508,890                   |   |                    |   | 29,763 |  | 7.80 | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Noninterest-earning assets:                                                      |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Cash and due from banks                                                          |  |                                         | 10,130  |   |                           |   |                    |  |      |                |  |   | 12,601                    |   |                    |   |        |  |      |  
|Property and equipment                                                           |  |                                         | 6,883   |   |                           |   |                    |  |      |                |  |   | 5,327                     |   |                    |   |        |  |      |  
|Interest receivable and other                                                    |  |                                         | 8,892   |   |                           |   |                    |  |      |                |  |   | 935                       |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total noninterest-earning assets                                                 |  |                                         | 25,905  |   |                           |   |                    |  |      |                |  |   | 18,863                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total assets                                                                     |  | $                                       | 654,110 |   |                           |   |                    |  |      |                |  | $ | 527,753                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Interest-bearing liabilities:                                                    |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|NOW accounts                                                                     |  |                                         | 56,682  |   |                           |   | 464                |  | 1.09 | %              |  |   | 50,640                    |   |                    |   | 659    |  | 1.74 | %
|Money markets                                                                    |  |                                         | 29,840  |   |                           |   | 630                |  | 2.82 | %              |  |   | 14,407                    |   |                    |   | 295    |  | 2.73 | %
|Savings deposits                                                                 |  |                                         | 65,687  |   |                           |   | 1,281              |  | 2.60 | %              |  |   | 49,845                    |   |                    |   | 1,090  |  | 2.92 | %
|Time deposits                                                                    |  |                                         | 334,079 |   |                           |   | 10,443             |  | 4.17 | %              |  |   | 302,622                   |   |                    |   | 11,922 |  | 5.25 | %
|Federal funds purchased/repurchase agreements                                    |  |                                         | 10,267  |   |                           |   | 237                |  | 3.08 | %              |  |   | 8,359                     |   |                    |   | 346    |  | 5.52 | %
|Borrowings                                                                       |  |                                         | 47,840  |   |                           |   | 938                |  | 2.61 | %              |  |   |                          |   |                    |   |       |  |     | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total interest-bearing liabilities                                               |  |                                         | 544,395 |   |                           |   | 13,993             |  | 3.43 | %              |  |   | 425,873                   |   |                    |   | 14,312 |  | 4.48 | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Noninterest-bearing liabilities:                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Demand deposits                                                                  |  |                                         | 56,085  |   |                           |   |                    |  |      |                |  |   | 51,710                    |   |                    |   |        |  |      |  
|Interest payable and other                                                       |  |                                         | 5,483   |   |                           |   |                    |  |      |                |  |   | 5,500                     |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total noninterest-bearing liabilities                                            |  |                                         | 61,568  |   |                           |   |                    |  |      |                |  |   | 57,210                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total liabilities                                                                |  |                                         | 605,963 |   |                           |   |                    |  |      |                |  |   | 483,083                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Stockholders equity                                                             |  |                                         | 48,137  |   |                           |   |                    |  |      |                |  |   | 44,670                    |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|Total liabilities and stockholders equity                                       |  | $                                       | 654,100 |   |                           |   |                    |  |      |                |  | $ | 527,753                   |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Net interest income and interest rate spread                                     |  |                                         |         |   |                           | $ | 15,309             |  | 2.79 | %              |  |   |                           |   |                    | $ | 15,451 |  | 3.32 | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Net yield on average interest-earning assets                                     |  |                                         |         |   |                           |   |                    |  | 3.25 | %              |  |   |                           |   |                    |   |        |  | 4.05 | %
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |  
|Ratio of average interest-earning assets to average interest-bearing liabilities |  |                                         | 115.40  | % |                           |   |                    |  |      |                |  |   | 119.49                    | % |                    |   |        |  |      |  
|                                                                                 |  |                                         |         |   |                           |   |                    |  |      |                |  |   |                           |   |                    |   |        |  |      |  



|(1) | Annualized
|--- | ----------

|(2) | Interest income includes deferred loan fees
|--- | -------------------------------------------

|(3) | For amounts under $1 yields are calculated using actual interest income and actual average asset totals not rounded values
|--- | --------------------------------------------------------------------------------------------------------------------------



24



---

##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and
Analysis

September 30, 2008



Volume and Rate Variance Analysis

(dollars in thousands)



|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|-------------------------------------------------------------------------- |  | ---------------------------------------- | ------ | - | -------------------------- | - | ------ | ----- |  | - | ------- | - |  | --------- | ----- | - | ----- | - | ----- | - |  | - | ----- | -
|                                                                           |  | For the Three Months Ended September 30, |       
|                                                                           |  | 2008 vs. 2007                            |        |   | 2007 vs. 2006              |  
|                                                                           |  | Increase (Decrease) Due to               |        |   | Increase (Decrease) Due to |  
|                                                                           |  | Rate(1)                                  |        |   | Volume(1)                  |   |        | Total |  |   | Rate(1) |   |  | Volume(1) |       |   | Total |  
|Interest Income:                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Loans, including loans held for sale                                       |  |                                          | (6,645 | ) |                            |   | 5,642  |       |  |   | (1,003  | ) |  |           | 105   |   |       |   | 2,637 |   |  |   | 2,742 |  
|Investment securities                                                      |  |                                          | (145   | ) |                            |   | (73    | )     |  |   | (218    | ) |  |           | 123   |   |       |   | 40    |   |  |   | 163   |  
|Federal funds sold                                                         |  |                                          | (24    | ) |                            |   |       |       |  |   | (24     | ) |  |           | 17    |   |       |   | (275  | ) |  |   | (258  | )
|Interest-earning cash deposits                                             |  |                                          |       |   |                            |   | 5      |       |  |   | 5       |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest income                                                      |  |                                          | (6,814 | ) |                            |   | 5,574  |       |  |   | (1,240  | ) |  |           | 245   |   |       |   | 2,402 |   |  |   | 2,647 |  
|                                                                           |  |                                          |        |   |                            |  
|Interest expense:                                                          |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|NOW accounts                                                               |  |                                          | (130   | ) |                            |   | 26     |       |  |   | (104    | ) |  |           | 76    |   |       |   | 18    |   |  |   | 94    |  
|Money markets                                                              |  |                                          |       |   |                            |   | 109    |       |  |   | 109     |   |  |           | 60    |   |       |   | 4     |   |  |   | 64    |  
|Savings deposits                                                           |  |                                          | (34    | ) |                            |   | 119    |       |  |   | 85      |   |  |           | 44    |   |       |   | 7     |   |  |   | 51    |  
|Time deposits                                                              |  |                                          | (1,372 | ) |                            |   | (25    | )     |  |   | (1,397  | ) |  |           | 850   |   |       |   | 149   |   |  |   | 999   |  
|Federal funds purchased and securities sold under agreements to repurchase |  |                                          | (98    | ) |                            |   | 49     |       |  |   | (49     | ) |  |           | 9     |   |       |   | 97    |   |  |   | 106   |  
|Borrowings                                                                 |  |                                          |       |   |                            |   | 375    |       |  |   | 375     |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest expense                                                     |  |                                          | (1,634 | ) |                            |   | 653    |       |  |   | (981    | ) |  |           | 1,039 |   |       |   | 275   |   |  |   | 1,314 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Net increase in net interest income                                        |  | $                                        | (5,180 | ) |                            | $ | 4,921  |       |  | $ | (259    | ) |  | $         | (794  | ) |       | $ | 2,127 |   |  | $ | 1,333 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|                                                                           | 
|                                                                           |  | For the Nine Months Ended September 30,  |       
|                                                                           |  | 2008 vs. 2007                            |        |   | 2007 vs. 2006              |  
|                                                                           |  | Increase (Decrease) Due to               |        |   | Increase (Decrease) Due to |  
|                                                                           |  | Rate(1)                                  |        |   | Volume(1)                  |   |        | Total |  |   | Rate(1) |   |  | Volume(1) |       |   | Total |  
|Interest Income:                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Loans, including loans held for sale                                       |  | $                                        | (1,080 | ) |                            | $ | 1,488  |       |  |   | 408     |   |  | $         | 1,148 |   |       | $ | 7,625 |   |  |   | 8,773 |  
|Investment securities                                                      |  |                                          | (316   | ) |                            |   | (536   | )     |  |   | (852    | ) |  |           | 388   |   |       |   | 327   |   |  |   | 715   |  
|Federal funds sold                                                         |  |                                          | (18    | ) |                            |   | 1      |       |  |   | (17     | ) |  |           | (443  | ) |       |   | 104   |   |  |   | (339  | )
|Interest-earning cash deposits                                             |  |                                          |       |   |                            |   |       |       |  |   |        |   |  |           | 13    |   |       |   | (39   | ) |  |   | (26   | )
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest income                                                      |  |                                          | (1,414 | ) |                            |   | 953    |       |  |   | (461    | ) |  |           | 1,106 |   |       |   | 8,017 |   |  |   | 9,123 |  
|                                                                           |  |                                          |        |   |                            |  
|Interest expense:                                                          |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|NOW accounts                                                               |  | $                                        | (288   | ) |                            | $ | 93     |       |  |   | (195    | ) |  |           | 169   |   |       |   | 159   |   |  |   | 328   |  
|Money markets                                                              |  |                                          | 9      |   |                            |   | 326    |       |  |   | 335     |   |  |           | 107   |   |       |   | 3     |   |  |   | 110   |  
|Savings deposits                                                           |  |                                          | (98    | ) |                            |   | 289    |       |  |   | 191     |   |  |           | 9     |   |       |   | 142   |   |  |   | 151   |  
|Time deposits                                                              |  |                                          | (2,977 | ) |                            |   | 1,498  |       |  |   | (1,479  | ) |  |           | 1,152 |   |       |   | 3,083 |   |  |   | 4,235 |  
|Federal funds purchased and securities sold under agreements to repurchase |  |                                          | (225   | ) |                            |   | 116    |       |  |   | (109    | ) |  |           | 6     |   |       |   | 261   |   |  |   | 267   |  
|Borrowings                                                                 |  |                                          |       |   |                            |   | 938    |       |  |   | 938     |   |  |           |      |   |       |   |      |   |  |   |      |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Total interest expense                                                     |  |                                          | (3,579 | ) |                            |   | 3,260  |       |  |   | (319    | ) |  |           | 1,443 |   |       |   | 3,648 |   |  |   | 5,091 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  
|Net increase in net interest income                                        |  | $                                        | 2,165  |   |                            | $ | (2,307 | )     |  | $ | (142    | ) |  | $         | (337  | ) |       | $ | 4,369 |   |  | $ | 4,032 |  
|                                                                           |  |                                          |        |   |                            |   |        |       |  |   |         |   |  |           |       |   |       |   |       |   |  |   |       |  



|(1) | The changes for each category of income and expense are divided between the portion of change attributable to the variance in rate or volume for that category. The amount of
change that cannot be seperated is all allocated to each variance proportionately.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Interest Sensitivity and Liquidity

One of the principal duties of the Companys Asset/Liability Management Committee is management of interest rate risk. The Company regularly utilizes
computer simulation modeling to assess the Companys overall interest rate risk. The results of this modeling are then used to evaluate the possible need for adjustment of the duration of assets and/or liabilities and to implement strategies to
accomplish such adjustments. The Committee reviews and approves comprehensive risk management strategies as well



25



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and
Analysis

September 30, 2008



as significant individual transactions executed to modify the
and/or liabilities and to implement strategies to accomplish such adjustments. The Committee reviews and approves comprehensive risk management strategies as well as significant individual transactions executed to modify the Companys interest
rate risk profile. Historically, management has viewed the maintaining of near neutral interest rate risk within a 100 basis point up or down band to be optimal. However, over the past nine months, interest rates have declined significantly more
than 100 basis points. As a result of this dramatic rate movement, the Companys asset sensitivity increased which in turn adversely impacted our net interest margin and consequently net income. Management believes that this is a relatively
short lived situation which will moderate as the Companys CD portfolio continues to reprice downward. However, some residual impact of the recent significant decrease in rates is expected to linger for at least a portion of the remainder of
2008. In addition to management of interest rate risk, another function of the Asset/Liability Committee is evaluating the current liquidity of the Company and identifying and planning for future liquidity needs. Such needs primarily consist of
insuring sufficient liquidity to meet current or expected needs for deposit withdrawals and the funding of investing activities, principally the making of loans and purchasing of securities. Liquidity is provided by cash flows from maturing
investments, loan payments and maturities, federal funds sold, and unpledged investment securities. On the liability side of the balance sheet, liquidity sources include core deposits, the ability to increase large denomination certificates of
deposit and borrowings from the Federal Home Loan Bank, as well as the ability to generate funds through the issuance of long-term debt and equity. In addition, the Company has established various credit facilities to provide additional liquidity if
and as needed. These include unsecured lines of credit with correspondent banks totaling $36.5 million and secured lines of credit of $17.0 million. At September 30, 2008, $14.5 million was outstanding on these credit facilities. The
Companys liquidity ratio was 10.8% at September 30, 2008. Management considers this ratio to be adequate to meet known or anticipated liquidity needs.



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##### Table of Contents

|Item 3. | Quantitative and Qualitative Disclosures about Market Risk
|------- | ----------------------------------------------------------

The
Companys profitability is dependent to a large extent upon its net interest income, which is the difference between its interest income on interest-earning assets, such as loans and investments, and its interest expense on interest-bearing
liabilities, such as deposits and borrowings. The Companys primary market risk is interest rate risk, which is the result of differing maturities or repricing intervals of interest-earning assets and interest-bearing liabilities.

The Companys Asset/Liability Committee (ALCO) meets on a quarterly basis in order to assess interest rate risk, liquidity, capital and overall
balance sheet management through rate shock analysis measuring various interest rate scenarios over the future 12 months. Through ALCO, the Company strives to determine the impact on net interest income from changes in interest rates in a range from
100 to 300 basis points up or down during a 12-month period. ALCO also reviews policies and procedures related to fund management and interest rate risk based on local, national and global economic conditions along with funding strategies and
balance sheet management to minimize the potential impact of earnings and liquidity from interest rate movements.

Additional information regarding
interest rate risk for the year ended December 31, 2007 is included in the Banks filing on Form 10-K/A. The Bank has not had any material changes in the overall interest rate risk since December 31, 2007.



|Item 4. | Controls and Procedures
|------- | -----------------------

The Companys management, under the
supervision and with the participation of our chief executive officer and chief financial officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures in accordance with Rule 13a-15 of the Securities
Exchange Act of 1934 (the Exchange Act). Based on the evaluation, our chief executive officer and chief financial officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were
effective in enabling us to provide reasonable assurance that we were able to record, process, summarize and report in a timely manner the information required to be disclosed in periodic reports we file under the Exchange Act.

It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

In connection with
the above evaluation, no change in our internal control over financial reporting was identified that occurred during the Companys third fiscal quarter of 2008 that has materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting.



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##### Table of Contents

PART II  OTHER INFORMATION



|         |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |  |                      
|-------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------
|Item 1.  |  | Legal Proceedings                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|         | 
|         |  | None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|         | 
|Item 1A. |  | Risk Factors                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|         | 
|         |  | In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, Item 1A. Risk Factors in the Banks
Annual Report on Form 10-K/A for the year ended December 31, 2007, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K/A are not the only risks facing the Company.
The recent disruptions in the credit markets and problems encountered in the financial services industry generally has increased the degree of the Risks Related to our Business discussed in our 10-K/A for 2007. Such increased risks
includes risks related to raising additional capital, managing interest rate risk, attracting and retaining deposits, maintaining and increasing the Companys net interest margin, dealing with enhanced regulation, collecting loans, and
maintaining adequate liquidity. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially 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                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|         | 
|         |  | Not Applicable                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|         | 
|Item 4.  |  | Submission of Matters to a Vote of Security Holders                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|         | 
|         |  | On July 28, 2008, the Annual Meeting of Shareholders of the Company was held to consider and vote upon five issues: (i) election of three (3) directors, (ii) approval of the
charter amendment, (iii) approval of the 2008 Omnibus Equity Plan, (iv) approval of the 2008 Employee Stock Purchase Plan and (v) ratification of the appointment of Elliott Davis & Company as independent accountants for 2008. Each of the items
offered for consideration was approved. The shares were voted as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|         |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|         |  | Proposal 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |  | Election of Directors
|         |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|         |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |  |                      



|                    |  |           |  |          |  |                 |  |          
|------------------- |  | --------- |  | -------- |  | --------------- |  | ---------
|                    |  | For       |  | Withheld |  | BrokerNon-Votes |  | Total    
|William H. Burton   |  | 3,036,976 |  | 26,403   |  |                |  | 3,063.379
|H. Steve McManus    |  | 3,039,269 |  | 24,110   |  |                |  | 3,063,379
|Bradley B. Schnyder |  | 3,036,586 |  | 26,793   |  |                |  | 3,063,379



| |  |             |  |                                      
| |  | ----------- |  | -------------------------------------
| |  |            
| |  | Proposal 2. |  | Proposal to Approve Charter Amendment



|          |  |               |  |               |  |                  |  |          
|--------- |  | ------------- |  | ------------- |  | ---------------- |  | ---------
|Votes For |  | Votes Against |  | Votes Abstain |  | Broker Non-Votes |  | Total    
|2,942,269 |  | 104,868       |  | 16,242        |  |                 |  | 3,063,379



| |  |             |  |                                     
| |  | ----------- |  | ------------------------------------
| |  |            
| |  | Proposal 3. |  | Proposal to 2008 Omnibus Equity Plan



|          |  |               |  |               |  |                  |  |          
|--------- |  | ------------- |  | ------------- |  | ---------------- |  | ---------
|Votes For |  | Votes Against |  | Votes Abstain |  | Broker Non-Votes |  | Total    
|1,799,619 |  | 102,289       |  | 35,558        |  | 1,125,913        |  | 3,063,379



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##### Table of Contents

PART II  OTHER INFORMATION



|Item 4. | Submission of Matters to a Vote of Security Holders (continued)
|------- | ---------------------------------------------------------------



| | Proposal 4. | Proposal to Approve 2008 Employee Stock Purchase Plan
| | ----------- | -----------------------------------------------------



For

Against

Abstained

Broker Non-Votes

Total1,873,258

38,845

26,063

1,125,213

3,063,379




| | Proposal 5 | Ratification of Independent Accountants
| | ---------- | ---------------------------------------



For

Against

Abstained

Broker Non-Votes

Total3,042,446

10,667

10,266



3,063,379




|        |  |                                                                                                                                                                                                                                               
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Item 5. |  | Other Information                                                                                                                                                                                                                             
|        | 
|        |  | Not Applicable                                                                                                                                                                                                                                
|        | 
|Item 6. |  | Exhibits                                                                                                                                                                                                                                      
|        | 
|3.1     |  | Registrants Articles of Incorporation, as amended                                                                                                                                                                                            
|        | 
|10.1    |  | 2008 Omnibus Equity Plan (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                          
|        | 
|10.2    |  | 2008 Employee Stock Purchase Plan (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                 
|        | 
|10.3    |  | Form of Indemnification Agreement (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                 
|        | 
|10.4    |  | Letter Loan Agreement - Line of Credit dated June 25, 2008, by and between 1st Financial Services Corporation and Branch Banking and Trust Company (incorporated by reference from
Exhibits to Current Report on Form 8-K dated June 25, 2008)
|        | 
|10.5    |  | Promissory Note dated June 25, 2008, by 1st Financial Services Corporation (incorporated by reference from Exhibits to Current Report on Form 8-K dated June 25, 2008)                                                                        
|        | 
|10.6    |  | Addendum to Promissory Note dated June 25, 2008, by 1st Financial Services Corporation (incorporated by reference from Exhibits to Current Report on Form 8-K dated June 25,
2008)                                                            
|        | 
|10.7    |  | Pledge and Security Agreement dated June 25, 2008, by 1st Financial Services Corporation for the benefit of Branch Banking and Trust Company (incorporated by reference from Exhibits to
Current Report on Form 8-K dated June 25, 2008)      
|        | 
|31.1    |  | Section 302 Certification  Chief Executive Officer                                                                                                                                                                                           
|        | 
|31.2    |  | Section 302 Certification  Chief Financial Officer                                                                                                                                                                                           
|        | 
|32      |  | Section 906 Certification                                                                                                                                                                                                                     



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##### Table of Contents

SIGNATURES

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



|                       |  |                                   |  |                         
|---------------------- |  | --------------------------------- |  | ------------------------
|                       |  | 1stFinancial Services Corporation
|                       |  |                                  
|Date: November 7, 2008 |  | By:                               |  | /s/    Gregory L. Gibson
|                       |  |                                   |  | Gregory L. Gibson       
|                       |  |                                   |  | Chief Executive Officer 
|                       |  |                                  
|Date: November 7, 2008 |  | By:                               |  | /s/    Roger A. Mobley  
|                       |  |                                   |  | Roger A. Mobley         
|                       |  |                                   |  | Chief Financial Officer 

EXHIBIT INDEX



|            |  |                                                                                                                                                                                                                                               
|----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |  | Description                                                                                                                                                                                                                                   
|3.1         |  | Registrants Articles of Incorporation, as amended                                                                                                                                                                                            
|            | 
|10.1        |  | 2008 Omnibus Equity Plan (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                          
|            | 
|10.2        |  | 2008 Employee Stock Purchase Plan (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                 
|            | 
|10.3        |  | Form of Indemnification Agreement (incorporated by reference from Exhibits to Current Report on Form 8-K dated July 28, 2008)                                                                                                                 
|            | 
|10.4        |  | Letter Loan Agreement - Line of Credit dated June 25, 2008, by and between 1st Financial Services Corporation and Branch Banking and Trust Company (incorporated by reference from Exhibits
to Current Report on Form 8-K dated June 25, 2008)
|            | 
|10.5        |  | Promissory Note dated June 25, 2008, by 1st Financial Services Corporation (incorporated by reference from Exhibits to Current Report on Form 8-K dated June 25, 2008)                                                                        
|            | 
|10.6        |  | Addendum to Promissory Note dated June 25, 2008, by 1st Financial Services Corporation (incorporated by reference from Exhibits to Current Report on Form 8-K dated June 25,
2008)                                                            
|            | 
|10.7        |  | Pledge and Security Agreement dated June 25, 2008, by 1st Financial Services Corporation for the benefit of Branch Banking and Trust Company (incorporated by reference from Exhibits to
Current Report on Form 8-K dated June 25, 2008)      
|            | 
|31.1        |  | Section 302 Certification  Chief Executive Officer                                                                                                                                                                                           
|            | 
|31.2        |  | Section 302 Certification  Chief Financial Officer                                                                                                                                                                                           
|            | 
|32          |  | Section 906 Certification                                                                                                                                                                                                                     



30