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United States

Securities and Exchange Commission

Washington, D.C. 20549





FORM 10-Q





(MARK ONE)

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

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2010



| ̈ | TRANSITION REPORT UNDER SECTION 13 OR 15(d) 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)





Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 of 15(d) 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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter)
during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES   ̈    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         |  |  ̈
|                        |  |   | 
|Non-accelerated filer   |  |  ̈ |  | Smaller reporting company |  | x

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

5,097,058 shares outstanding as of
November 5, 2010









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##### Table of Contents



1stFinancial Services Corporation

Index





|                                 |  |          |    |                                                                                                                               |  |             |       | 
|-------------------------------- |  | -------- | -- | ----------------------------------------------------------------------------------------------------------------------------- |  | ----------- | ----- | 
|                                 |  |          |    |                                                                                                                               |  | Page Number |      
|                                 | 
|Part I.    FINANCIAL INFORMATION |  |          |    |                                                                                                                              
|                                 |  |          |   
|                                 |  | Item 1.  |    | Financial Statements                                                                                                          |  |             |       | 
|                                 |  |          |   
|                                 |  |          |    | Consolidated Balance Sheets September 30, 2010 (Unaudited) and December 31, 2009                                              |  |             | 1     | 
|                                 |  |          |   
|                                 |  |          |    | Consolidated Statements of Loss for the Three and Nine Months Ended September 30, 2010 and 2009 (Unaudited)                   |  |             | 2     | 
|                                 |  |          |   
|                                 |  |          |    | Consolidated Statements of Changes in Stockholders Equity for the Nine Months Ended September 30,
 2010 and 2009 (Unaudited) |  |             | 3     | 
|                                 |  |          |   
|                                 |  |          |    | Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2010 and 2009
(Unaudited)                       |  |             | 4     | 
|                                 |  |          |   
|                                 |  |          |    | Notes to Consolidated Financial Statements                                                                                    |  |             | 5-16  | 
|                                 |  |          |   
|                                 |  | Item 2.  |    | Managements Discussion and Analysis of Financial Condition and Results of Operations                                         |  |             | 17-31 | 
|                                 |  |          |   
|                                 |  | Item 3.  |    | Quantitative and Qualitative Disclosures about Market Risk                                                                    |  |             | 31    | 
|                                 |  |          |   
|                                 |  | Item 4.  |    | Controls and Procedures                                                                                                       |  |             | 31-32 | 
|                                 | 
|Part II.    OTHER INFORMATION    |  |          |    |                                                                                                                              
|                                 |  |          |   
|                                 |  | Item 1.  |    | Legal Proceedings                                                                                                             |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 1A. |    | Risk Factors                                                                                                                  |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 2.  |    | Unregistered Sales of Equity Securities and Use of Proceeds                                                                   |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 3.  |    | Defaults Upon Senior Securities                                                                                               |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 4.  |    | (Removed and Reserved)                                                                                                        |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 5.  |    | Other Information                                                                                                             |  |             | 33    | 
|                                 |  |          |   
|                                 |  | Item 6.  |    | Exhibits                                                                                                                      |  |             | 33    | 
|                                 | 
|Signatures                       |  |          | 34 |                                                                                                                              



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##### Table of Contents



PART I
 FINANCIAL INFORMATION

Item 1. Financial Statements

1stFinancial Services Corporation

Consolidated Balance Sheets

September 30, 2010 (Unaudited) and
December 31, 2009

(dollars in thousands, except share and per share data)





|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------- | - | ----------------- | - | ------- | -
|                                                                                                                                                                           |  | September 30, 2010 |         |   | December 31, 2009 |  
|Assets                                                                                                                                                                     |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                           |  |                   
|Cash and noninterest-bearing bank deposits                                                                                                                                 |  | $                  | 15,926  |   |                   | $ | 10,202  |  
|Due from Federal Reserve Bank                                                                                                                                              |  |                    | 51,520  |   |                   |   | 111,595 |  
|Interest-bearing deposits with banks                                                                                                                                       |  |                    | 7,175   |   |                   |   | 33      |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total cash and cash equivalents                                                                                                                                            |  |                    | 74,621  |   |                   |   | 121,830 |  
|Investment securities available for sale                                                                                                                                   |  |                    | 144,881 |   |                   |   | 94,330  |  
|Investment securities held to maturity (fair value of $2,900 at September 30, 2010 and $834 at December 31,
2009)                                                          |  |                    | 2,765   |   |                   |   | 805     |  
|Restricted equity securities                                                                                                                                               |  |                    | 5,670   |   |                   |   | 5,987   |  
|Loans held for sale                                                                                                                                                        |  |                    | 9,709   |   |                   |   | 4,501   |  
|Loans, net of allowance for loan losses of $16,655 at September 30, 2010 and $28,231 at December 31,
2009                                                                  |  |                    | 494,618 |   |                   |   | 526,000 |  
|Bank-owned life insurance                                                                                                                                                  |  |                    | 12,402  |   |                   |   | 12,055  |  
|Property and equipment, net                                                                                                                                                |  |                    | 5,696   |   |                   |   | 6,027   |  
|Accrued interest receivable                                                                                                                                                |  |                    | 2,651   |   |                   |   | 2,524   |  
|Investment in real estate partnership                                                                                                                                      |  |                    | 6,667   |   |                   |   | 6,667   |  
|Real estate acquired in settlement of loans                                                                                                                                |  |                    | 7,044   |   |                   |   | 1,667   |  
|Other assets                                                                                                                                                               |  |                    | 11,526  |   |                   |   | 10,618  |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total assets                                                                                                                                                               |  | $                  | 778,250 |   |                   | $ | 793,011 |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                           |  |                   
|Liabilities and Stockholders Equity                                                                                                                                       |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                           |  |                   
|Liabilities:                                                                                                                                                               |  |                    |         |   |                   |   |         |  
|Demand deposits                                                                                                                                                            |  | $                  | 68,073  |   |                   | $ | 63,547  |  
|NOW accounts                                                                                                                                                               |  |                    | 62,844  |   |                   |   | 63,667  |  
|Savings deposits                                                                                                                                                           |  |                    | 110,282 |   |                   |   | 88,454  |  
|Money market accounts                                                                                                                                                      |  |                    | 50,109  |   |                   |   | 42,272  |  
|Time deposits under $100                                                                                                                                                   |  |                    | 205,304 |   |                   |   | 213,115 |  
|Time deposits of $100 and greater                                                                                                                                          |  |                    | 193,286 |   |                   |   | 202,227 |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total deposits                                                                                                                                                             |  |                    | 689,898 |   |                   |   | 673,282 |  
|                                                                                                                                                                           |  |                   
|Federal funds purchased and securities sold under agreements to repurchase                                                                                                 |  |                    | 1,245   |   |                   |   | 1,270   |  
|Other borrowings                                                                                                                                                           |  |                    | 41,022  |   |                   |   | 70,000  |  
|Accrued interest payable                                                                                                                                                   |  |                    | 3,168   |   |                   |   | 2,257   |  
|Other liabilities                                                                                                                                                          |  |                    | 2,488   |   |                   |   | 2,440   |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total liabilities                                                                                                                                                          |  |                    | 737,821 |   |                   |   | 749,249 |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                           |  |                   
|Stockholders equity:                                                                                                                                                      |  |                    |         |   |                   |   |         |  
|Preferred stock, no par value. 10,000,000 shares authorized;16,369 shares issued and outstanding atSeptember 30,
2010 and December 31, 2009                                |  |                    | 15,735  |   |                   |   | 15,583  |  
|Common stock, $5.00 par value; 35,000,000 shares authorized;5,090,408 and 5,010,117 shares issued and outstanding
atSeptember 30, 2010 and December 31, 2009, respectively |  |                    | 25,452  |   |                   |   | 25,050  |  
|Common stock warrant                                                                                                                                                       |  |                    | 1,016   |   |                   |   | 1,016   |  
|Additional paid-in capital                                                                                                                                                 |  |                    | 17,538  |   |                   |   | 17,804  |  
|Retained deficit                                                                                                                                                           |  |                    | (20,305 | ) |                   |   | (15,648 | )
|Accumulated other comprehensive income (loss)                                                                                                                              |  |                    | 993     |   |                   |   | (43     | )
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total stockholders equity                                                                                                                                                 |  |                    | 40,429  |   |                   |   | 43,762  |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  
|Total liabilities and stockholders equity                                                                                                                                 |  | $                  | 778,250 |   |                   | $ | 793,011 |  
|                                                                                                                                                                           |  |                    |         |   |                   |   |         |  

See accompanying notes to consolidated financial statements



1



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1stFinancial Services Corporation

Consolidated Statements of Loss

Three and Nine Months Ended
September 30, 2010 and 2009 (Unaudited)

(dollars in thousands, except share and per share data)





|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|-------------------------------------------------------------------------- |  | -------------------------------- | --------- | - | ------------------------------- | - | --------- | ---- |  | - | --------- | - |  | - | --------- | -
|                                                                           |  | Three Months Ended September 30, |           |   | Nine Months Ended September 30, |  
|                                                                           |  | 2010                             |           |   | 2009                            |   |           | 2010 |  |   | 2009      |  
|Interest income                                                            |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Loans and fees on loans                                                    |  | $                                | 6,864     |   |                                 | $ | 7,577     |      |  | $ | 21,052    |   |  | $ | 23,448    |  
|Investment securities                                                      |  |                                  | 854       |   |                                 |   | 512       |      |  |   | 2,012     |   |  |   | 2,057     |  
|Due from Federal Reserve Bank                                              |  |                                  | 34        |   |                                 |   |          |      |  |   | 175       |   |  |   |          |  
|Interest-earning deposits with banks                                       |  |                                  | 25        |   |                                 |   |          |      |  |   | 29        |   |  |   |          |  
|Federal funds sold                                                         |  |                                  |          |   |                                 |   | 5         |      |  |   |          |   |  |   | 9         |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Total interest income                                                      |  |                                  | 7,777     |   |                                 |   | 8,094     |      |  |   | 23,268    |   |  |   | 25,514    |  
|                                                                           |  |                                  |           |  
|Interest expense                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Deposits                                                                   |  |                                  | 2,405     |   |                                 |   | 2,396     |      |  |   | 7,565     |   |  |   | 8,271     |  
|Federal funds purchased and securities sold under agreements to repurchase |  |                                  | 2         |   |                                 |   | 4         |      |  |   | 5         |   |  |   | 11        |  
|Other borrowings                                                           |  |                                  | 86        |   |                                 |   | 26        |      |  |   | 358       |   |  |   | 107       |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Total interest expense                                                     |  |                                  | 2,493     |   |                                 |   | 2,426     |      |  |   | 7,928     |   |  |   | 8,389     |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Net interest income                                                        |  |                                  | 5,284     |   |                                 |   | 5,668     |      |  |   | 15,340    |   |  |   | 17,125    |  
|                                                                           |  |                                  |           |  
|Provision for loan losses                                                  |  |                                  | 8,500     |   |                                 |   | 14,000    |      |  |   | 9,520     |   |  |   | 18,975    |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Net interest income after provision for loan losses                        |  |                                  | (3,216    | ) |                                 |   | (8,332    | )    |  |   | 5,820     |   |  |   | (1,850    | )
|                                                                           |  |                                  |           |  
|Noninterest income                                                         |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Service charges on deposit accounts                                        |  |                                  | 572       |   |                                 |   | 543       |      |  |   | 1,686     |   |  |   | 1,592     |  
|Mortgage services revenue                                                  |  |                                  | 661       |   |                                 |   | 407       |      |  |   | 1,479     |   |  |   | 1,331     |  
|Other service charges and fees                                             |  |                                  | 131       |   |                                 |   | 98        |      |  |   | 361       |   |  |   | 272       |  
|Increase in cash surrender value of life insurance                         |  |                                  | 117       |   |                                 |   | 130       |      |  |   | 347       |   |  |   | 407       |  
|Gain on sale of investment securities, net                                 |  |                                  | 297       |   |                                 |   | 47        |      |  |   | 797       |   |  |   | 598       |  
|Loss on restricted equity security                                         |  |                                  |          |   |                                 |   |          |      |  |   |          |   |  |   | (424      | )
|Gain on sale of Small Business Administration loans                        |  |                                  | 173       |   |                                 |   |          |      |  |   | 302       |   |  |   |          |  
|Other income                                                               |  |                                  | 27        |   |                                 |   | 13        |      |  |   | 57        |   |  |   | 28        |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Total noninterest income                                                   |  |                                  | 1,978     |   |                                 |   | 1,238     |      |  |   | 5,029     |   |  |   | 3,804     |  
|                                                                           |  |                                  |           |  
|Noninterest expense                                                        |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Salaries and employee benefits                                             |  |                                  | 2,920     |   |                                 |   | 2,446     |      |  |   | 8,051     |   |  |   | 7,233     |  
|Occupancy                                                                  |  |                                  | 440       |   |                                 |   | 394       |      |  |   | 1,279     |   |  |   | 1,148     |  
|Equipment                                                                  |  |                                  | 297       |   |                                 |   | 338       |      |  |   | 936       |   |  |   | 1,038     |  
|Advertising                                                                |  |                                  | 123       |   |                                 |   | 161       |      |  |   | 395       |   |  |   | 443       |  
|Data processing and telecommunications                                     |  |                                  | 702       |   |                                 |   | 474       |      |  |   | 1,687     |   |  |   | 1,055     |  
|Deposit insurance premiums                                                 |  |                                  | 572       |   |                                 |   | 245       |      |  |   | 1,652     |   |  |   | 1,053     |  
|Professional fees                                                          |  |                                  | 270       |   |                                 |   | 234       |      |  |   | 831       |   |  |   | 718       |  
|Printing and supplies expense                                              |  |                                  | 72        |   |                                 |   | 67        |      |  |   | 206       |   |  |   | 206       |  
|Other real estate owned expense                                            |  |                                  | 627       |   |                                 |   | 461       |      |  |   | 988       |   |  |   | 1,342     |  
|Loss on sale of respossessions acquired in settlement of loans             |  |                                  |          |   |                                 |   |          |      |  |   | 9         |   |  |   | 426       |  
|Debt extinguishment expense                                                |  |                                  | 9         |   |                                 |   |          |      |  |   | 75        |   |  |   |          |  
|Other                                                                      |  |                                  | 593       |   |                                 |   | 581       |      |  |   | 1,571     |   |  |   | 1,645     |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Total noninterest expense                                                  |  |                                  | 6,625     |   |                                 |   | 5,401     |      |  |   | 17,680    |   |  |   | 16,307    |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Loss before income tax benefit                                             |  |                                  | (7,863    | ) |                                 |   | (12,495   | )    |  |   | (6,831    | ) |  |   | (14,353   | )
|                                                                           |  |                                  |           |  
|Income tax benefit                                                         |  |                                  | (3,055    | ) |                                 |   | (4,681    | )    |  |   | (2,736    | ) |  |   | (5,454    | )
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Net loss                                                                   |  |                                  | (4,808    | ) |                                 |   | (7,814    | )    |  |   | (4,095    | ) |  |   | (8,899    | )
|Accretion of preferred stock to redemption value                           |  |                                  | 51        |   |                                 |   | 51        |      |  |   | 152       |   |  |   | 152       |  
|Dividends on preferred stock                                               |  |                                  | 205       |   |                                 |   | 206       |      |  |   | 614       |   |  |   | 616       |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Net loss available to common stockholders                                  |  | $                                | (5,064    | ) |                                 | $ | (8,071    | )    |  | $ | (4,861    | ) |  | $ | (9,667    | )
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|                                                                           |  |                                  |           |  
|Basic loss per share                                                       |  | $                                | (0.99     | ) |                                 | $ | (1.61     | )    |  | $ | (0.96     | ) |  | $ | (1.93     | )
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Diluted loss per share                                                     |  | $                                | (0.99     | ) |                                 | $ | (1.61     | )    |  | $ | (0.96     | ) |  | $ | (1.93     | )
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Basic weighted average shares outstanding                                  |  |                                  | 5,089,932 |   |                                 |   | 5,005,069 |      |  |   | 5,070,462 |   |  |   | 5,000,990 |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  
|Diluted weighted average shares outstanding                                |  |                                  | 5,089,932 |   |                                 |   | 5,005,069 |      |  |   | 5,070,462 |   |  |   | 5,000,990 |  
|                                                                           |  |                                  |           |   |                                 |   |           |      |  |   |           |   |  |   |           |  

See accompanying notes to consolidated financial statements



2



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##### Table of Contents



1stFinancial Services Corporation

Consolidated Statements of Changes in Stockholders Equity

Nine Months
Ended September 30, 2010 and 2009 (Unaudited)

(dollars in thousands, except share data)





|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|-------------------------------------------------------------------------------------------- |  | ------------ | --------- |  | --------------- | - | ------ | ------ |  |  | ----------------- |  |  | ---------------- | ------ |  | ----------------------------------- | - | ----- | --------- |  | - | ------ | - |  | ----- | ------- | - |  | - | ----- | - |  | - | ------ | -
|                                                                                             |  | Common Stock |           |  | Preferred Stock |   |        |        |  |  | AdditionalPaid-in |  |  | RetainedEarnings |        |  | AccumulatedOtherComprehensiveIncome |   |       |           | 
|                                                                                             |  | Shares       |           |  | Amount          |   |        | Shares |  |  | Amount            |  |  | Warrant          |        |  | Capital                             |   |       | (Deficit) |  |   | (Loss) |   |  | Total |        
|Balance, December 31, 2008                                                                   |  |              | 4,997,027 |  |                 | $ | 24,985 |        |  |  | 16,369            |  |  | $                | 15,380 |  |                                     | $ | 1,016 |           |  | $ | 17,778 |   |  | $     | 3,933   |   |  | $ | (522  | ) |  | $ | 62,570 |  
|Issuance of common stock                                                                     |  |              | 8,084     |  |                 |   | 40     |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   | (3     | ) |  |       |        |   |  |   |      |   |  |   | 37     |  
|Stock compensation expense                                                                   |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   | 27     |   |  |       |        |   |  |   |      |   |  |   | 27     |  
|Preferred dividend                                                                           |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       | (616    | ) |  |   |      |   |  |   | (616   | )
|Accretion of preferred stock to redemption value                                             |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  | 152    |  |                                     |   |      |           |  |   |       |   |  |       | (152    | ) |  |   |      |   |  |   |       |  
|Comprehensive loss                                                                           |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Net loss                                                                                     |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       | (8,899  | ) |  |   |      |   |  |   | (8,899 | )
|Net unrealized gain on investment securities available for sale, net of income taxes of $781 |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   | 1,245 |   |  |   | 1,245  |  
|Reclassification adjustment for gains included in net income, net of income taxes of $(231)  |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   | (367  | ) |  |   | (367   | )
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Total comprehensive loss                                                                     |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   |      |   |  |   | (8,021 | )
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Balance, September 30, 2009                                                                  |  |              | 5,005,111 |  |                 | $ | 25,025 |        |  |  | 16,369            |  |  | $                | 15,532 |  |                                     | $ | 1,016 |           |  | $ | 17,802 |   |  | $     | (5,734  | ) |  | $ | 356   |   |  | $ | 53,997 |  
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|                                                                                             |  |              |           |  |                 |   |        |        | 
|Balance, December 31, 2009                                                                   |  |              | 5,010,117 |  |                 | $ | 25,050 |        |  |  | 16,369            |  |  | $                | 15,583 |  |                                     | $ | 1,016 |           |  | $ | 17,804 |   |  | $     | (15,648 | ) |  | $ | (43   | ) |  | $ | 43,762 |  
|Issuance of common stock                                                                     |  |              | 80,291    |  |                 |   | 402    |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   | (291   | ) |  |       |        |   |  |   |      |   |  |   | 111    |  
|Stock compensation expense                                                                   |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   | 25     |   |  |       |        |   |  |   |      |   |  |   | 25     |  
|Preferred dividend                                                                           |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       | (410    | ) |  |   |      |   |  |   | (410   | )
|Accretion of preferred stock to redemption value                                             |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  | 152    |  |                                     |   |      |           |  |   |       |   |  |       | (152    | ) |  |   |      |   |  |   |       |  
|Comprehensive loss                                                                           |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Net loss                                                                                     |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       | (4,095  | ) |  |   |      |   |  |   | (4,095 | )
|Net unrealized gain on investment securities available for sale, net of income taxes of $958 |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   | 1,526 |   |  |   | 1,526  |  
|Reclassification adjustment for gains included in net income, net of income taxes of $(307)  |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   | (490  | ) |  |   | (490   | )
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Total comprehensive loss                                                                     |  |              |          |  |                 |   |       |        |  |  |                  |  |  |                  |       |  |                                     |   |      |           |  |   |       |   |  |       |        |   |  |   |      |   |  |   | (3,059 | )
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  
|Balance, September 30, 2010                                                                  |  |              | 5,090,408 |  |                 | $ | 25,452 |        |  |  | 16,369            |  |  | $                | 15,735 |  |                                     | $ | 1,016 |           |  | $ | 17,538 |   |  | $     | (20,305 | ) |  | $ | 993   |   |  | $ | 40,429 |  
|                                                                                             |  |              |           |  |                 |   |        |        |  |  |                   |  |  |                  |        |  |                                     |   |       |           |  |   |        |   |  |       |         |   |  |   |       |   |  |   |        |  

See accompanying notes to consolidated financial statements



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1stFinancial Services Corporation

Consolidated Statements of Cash Flows

Nine Months Ended September 30, 2010 and
2009 (Unaudited)

(dollars in thousands)





|                                                                                                      |  |                                 |          |   |      |   |         |  
|----------------------------------------------------------------------------------------------------- |  | ------------------------------- | -------- | - | ---- | - | ------- | -
|                                                                                                      |  | Nine Months Ended September 30, |         
|                                                                                                      |  | 2010                            |          |   | 2009 |  
|Cash flows from operating activities                                                                  |  |                                 |          |   |      |   |         |  
|Net loss                                                                                              |  | $                               | (4,095   | ) |      | $ | (8,899  | )
|Adjustments to reconcile net loss to net cash provided by operations:                                 |  |                                 |          |   |      |   |         |  
|Depreciation                                                                                          |  |                                 | 915      |   |      |   | 1,119   |  
|Provision for loan losses                                                                             |  |                                 | 9,520    |   |      |   | 18,975  |  
|Deferred income taxes                                                                                 |  |                                 | (1,393   | ) |      |   | (3,271  | )
|Amortization of premium on securities, net of discount accretion                                      |  |                                 | 1,127    |   |      |   | 542     |  
|Origination of available for sale loans                                                               |  |                                 | (75,039  | ) |      |   | (88,629 | )
|Proceeds from sales of available for sale loans                                                       |  |                                 | 70,896   |   |      |   | 91,587  |  
|Net gains on sales of investment securities                                                           |  |                                 | (797     | ) |      |   | (598    | )
|Net gains on sales of Small Business Administration loans                                             |  |                                 | (302     | ) |      |   |        |  
|Net gains on sales of available for sale loans                                                        |  |                                 | (1,065   | ) |      |   | (611    | )
|Net loss on sales of repossessions acquired in settlement of loans                                    |  |                                 | 9        |   |      |   | 427     |  
|Net loss on sale of real estate acquired in settlement of loans                                       |  |                                 | 327      |   |      |   | 1,041   |  
|Net loss on sale/disposal of equipment                                                                |  |                                 | 59       |   |      |   |        |  
|Stock compensation expense                                                                            |  |                                 | 88       |   |      |   | 27      |  
|Loss on restricted equity securities                                                                  |  |                                 |         |   |      |   | 424     |  
|Writedown of real estate acquired in settlement of loans                                              |  |                                 | 311      |   |      |   | 416     |  
|Increase in cash surrender value of bank owned life insurance                                         |  |                                 | (347     | ) |      |   | (407    | )
|Changes in assets and liabilities:                                                                    |  |                                 |          |   |      |   |         |  
|Accrued interest receivable                                                                           |  |                                 | (127     | ) |      |   | 349     |  
|Other assets                                                                                          |  |                                 | (97      | ) |      |   | (3,708  | )
|Accrued interest payable                                                                              |  |                                 | 911      |   |      |   | (1,142  | )
|Other liabilities                                                                                     |  |                                 | 48       |   |      |   | 527     |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Net cash provided by operating activities                                                             |  |                                 | 950      |   |      |   | 8,169   |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|                                                                                                      |  |                                
|Cash flows from investing activities                                                                  |  |                                 |          |   |      |   |         |  
|Purchases of investment securities available for sale                                                 |  |                                 | (133,390 | ) |      |   | (63,995 | )
|Sales of investment securities available for sale                                                     |  |                                 | 54,828   |   |      |   | 65,999  |  
|Maturities and calls of investment securities available for sale                                      |  |                                 | 29,364   |   |      |   |        |  
|Purchases of investment securities held to maturity                                                   |  |                                 | (2,012   | ) |      |   |        |  
|Maturities and calls of investment securities held to maturity                                        |  |                                 | 50       |   |      |   | 13,472  |  
|Purchases of restricted equity securities                                                             |  |                                 |         |   |      |   | (281    | )
|Sales of restricted equity securities                                                                 |  |                                 | 317      |   |      |   | 2,160   |  
|Proceeds from sale of branch                                                                          |  |                                 | 4,512    |   |      |   |        |  
|Proceeds from sale of other real estate                                                               |  |                                 | 3,687    |   |      |   |        |  
|Improvements to foreclosed assets                                                                     |  |                                 | (347     | ) |      |   |        |  
|Net decrease (increase) in loans                                                                      |  |                                 | 12,737   |   |      |   | (7,124  | )
|Purchases of property and equipment                                                                   |  |                                 | (987     | ) |      |   | (312    | )
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Net cash provided by (used in) investing activities                                                   |  |                                 | (31,241  | ) |      |   | 9,919   |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|                                                                                                      |  |                                
|Cash flows from financing activities                                                                  |  |                                 |          |   |      |   |         |  
|Proceeds from the issuance of common stock                                                            |  |                                 | 47       |   |      |   | 37      |  
|Net increase (decrease) in deposits                                                                   |  |                                 | 12,448   |   |      |   | (3,991  | )
|Net increase (decrease) in securities sold under agreements to repurchase and federal funds purchased |  |                                 | (25      | ) |      |   | 754     |  
|Net decrease in borrowings                                                                            |  |                                 | (28,978  | ) |      |   | (8,000  | )
|Dividends paid on preferred stock                                                                     |  |                                 | (409     | ) |      |   | (616    | )
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Net cash used in financing activities                                                                 |  |                                 | (16,918  | ) |      |   | (11,816 | )
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Net increase (decrease) in cash and cash equivalents                                                  |  |                                 | (47,209  | ) |      |   | 6,272   |  
|                                                                                                      |  |                                
|Cash and cash equivalents, beginning                                                                  |  |                                 | 121,830  |   |      |   | 10,281  |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Cash and cash equivalents, ending                                                                     |  | $                               | 74,621   |   |      | $ | 16,553  |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|                                                                                                      |  |                                
|Supplemental disclosure of cash flow information                                                      |  |                                 |          |   |      |   |         |  
|Transfer of loans to real estate acquired in settlement of loans                                      |  | $                               | 9,355    |   |      | $ | 4,855   |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Transfer of loans to repossessions acquired in settlement of loans                                    |  | $                               | 72       |   |      | $ | 44      |  
|                                                                                                      |  |                                 |          |   |      |   |         |  
|Transfer of loans to investment in real estate partnership                                            |  | $                               |         |   |      | $ | 6,667   |  
|                                                                                                      |  |                                 |          |   |      |   |         |  

See accompanying notes to consolidated financial statements



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010



Note 1. Organization and
Summary of Significant Accounting Policies

Organization

1stFinancial Services Corporation (1stFinancial or the Company), formed in May 2008, is a North Carolina corporation and the sole owner of all of the stock of Mountain 1stBank & Trust Company (the Bank). The Bank is a
North Carolina chartered, non-member bank, which was organized and incorporated under the laws of the State of North Carolina on April 30, 2004, and commenced operations on May 14, 2004. The Bank is headquartered in Hendersonville, North
Carolina and currently conducts business in nine western North Carolina counties through 14 full-service branch offices. As a state-chartered bank, the Bank is subject to regulation by the North Carolina Commissioner of Banks and the Federal Deposit
Insurance Corporation. The Company is also regulated, supervised, and examined by the Board of Governors of the Federal Reserve System.

Principles of Consolidation

The
consolidated financial statements include the accounts of the Company, the Bank, and the Banks wholly owned subsidiary, Clear Focus Holdings, LLC. 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, 2010, its
results of operations for the three- and nine-month periods ended September 30, 2010 and 2009 and its cash flows and changes in stockholders equity for the nine month periods ended September 30, 2010 and 2009. Management believes all
interim period adjustments are of a normal recurring nature. These consolidated financial statements should be read in conjunction with the audited financial statements for the year ended December 31, 2009, contained in the Companys
filing on Form 10-K with the Securities and Exchange Commission. The accounting policies of the Company and the Bank follow generally accepted accounting principles and practices within the financial services industry.

Estimates

The preparation of
financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of
contingent assets and liabilities as of the date of the balance sheets and the reported amounts of income and expenses for the periods presented. Actual results could differ significantly from those estimates.

Material estimates that are particularly susceptible to significant change in the near-term relate to the determination of the allowances for loan
losses.

Subsequent Events

We have evaluated events and transactions through our filing date for potential recognition or disclosure in the consolidated financial statements.

Recent Accounting Developments

In January 2010, fair value guidance was amended to require disclosures for significant amounts transferred in and out of Levels 1 and 2 and the reasons
for such transfers and to require that gross amounts of purchases, sales, issuances, and settlements be provided in the Level 3 reconciliation. The new disclosures for the Company have been reflected in Note 6  Fair Value Measurements.



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







Guidance related to subsequent
events was amended in February 2010 to remove the requirement for a Securities and Exchange Commission filer to disclose the date through which subsequent events were evaluated. The amendments were effective upon issuance and had no significant
impact on the Companys consolidated financial statements.

In July 2010, Financial Accounting Standards Board (FASB) issued
new guidance regarding disclosures about the credit quality of financing receivables and the allowance for credit losses ASU 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. This
guidance requires additional disclosures about the credit quality of financing receivables, such as aging information and credit quality indicators. In addition, disclosures must be disaggregated by portfolio segment or class based on how a company
develops its allowance for credit losses and how it manages its credit exposure. Most of the requirements are effective for the fourth quarter of 2010 with certain additional disclosures required for the first quarter of 2011. The Company is
currently evaluating the impact of this guidance on its consolidated financial statements.

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.Investment Securities

The Company maintains a portfolio of investment
securities as part of its asset/liability and liquidity management program, which emphasizes effective yields and maturities to match its funding 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, and for which the Company has the positive intent and ability to hold to maturity and are reported at cost, adjusted by premiums and discounts that are recognized in interest income using the effective interest rate method over
the period to maturity or call date. Investments in held-to-maturity securities at September 30, 2010 and December 31, 2009 are as follows (dollars in thousands):



|                                  |  |                    |       |  |                   |   |       |               |  |   |           |  |  |   |     | 
|--------------------------------- |  | ------------------ | ----- |  | ----------------- | - | ----- | ------------- |  | - | --------- |  |  | - | --- | 
|                                  |  | September 30, 2010 |       |  | December 31, 2009 |  
|                                  |  | AmortizedCost      |       |  | FairValue         |   |       | AmortizedCost |  |   | FairValue | 
|Held to Maturity                  |  |                    |       |  |                   |   |       |               |  |   |           |  |  |   |     | 
|Municipal securities              |  | $                  | 2,765 |  |                   | $ | 2,900 |               |  | $ | 805       |  |  | $ | 834 | 
|                                  |  |                    |       |  |                   |   |       |               |  |   |           |  |  |   |     | 
|Total securities held to maturity |  | $                  | 2,765 |  |                   | $ | 2,900 |               |  | $ | 805       |  |  | $ | 834 | 
|                                  |  |                    |       |  |                   |   |       |               |  |   |           |  |  |   |     | 

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, 2010 and December 31, 2009 are as follows (dollars in thousands):



|                                    |  |                    |         |  |                 |   |       |                  |  |   |            |  |  |   |         | 
|----------------------------------- |  | ------------------ | ------- |  | --------------- | - | ----- | ---------------- |  | - | ---------- |  |  | - | ------- | 
|                                    |  | September 30, 2010 |        
|                                    |  | AmortizedCost      |         |  | UnrealizedGains |   |       | UnrealizedLosses |  |   | Fair Value | 
|Available for Sale                  |  |                    |         |  |                 |   |       |                  |  |   |            |  |  |   |         | 
|U.S. Government agencies            |  | $                  | 27,789  |  |                 | $ | 92    |                  |  | $ | 123        |  |  | $ | 27,758  | 
|Government-sponsored enterprises    |  |                    | 30,047  |  |                 |   | 153   |                  |  |   |           |  |  |   | 30,200  | 
|Mortgage-backed securities          |  |                    | 85,430  |  |                 |   | 1,493 |                  |  |   |           |  |  |   | 86,923  | 
|                                    |  |                    |         |  |                 |   |       |                  |  |   |            |  |  |   |         | 
|Total securities available for sale |  | $                  | 143,266 |  |                 | $ | 1,738 |                  |  | $ | 123        |  |  | $ | 144,881 | 
|                                    |  |                    |         |  |                 |   |       |                  |  |   |            |  |  |   |         | 



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







|                                    |  |                   |        |  |                 |   |     |                  |  |   |           |  |  |   |        | 
|----------------------------------- |  | ----------------- | ------ |  | --------------- | - | --- | ---------------- |  | - | --------- |  |  | - | ------ | 
|                                    |  | December 31, 2009 |       
|                                    |  | AmortizedCost     |        |  | UnrealizedGains |   |     | UnrealizedLosses |  |   | FairValue | 
|Available for Sale                  |  |                   |        |  |                 |   |     |                  |  |   |           |  |  |   |        | 
|U.S. Government agencies            |  | $                 | 26,902 |  |                 | $ | 1   |                  |  | $ | 307       |  |  | $ | 26,596 | 
|Government-sponsored enterprises    |  |                   | 500    |  |                 |   | 2   |                  |  |   |          |  |  |   | 502    | 
|Mortgage-backed securities          |  |                   | 66,993 |  |                 |   | 480 |                  |  |   | 241       |  |  |   | 67,232 | 
|                                    |  |                   |        |  |                 |   |     |                  |  |   |           |  |  |   |        | 
|Total securities available for sale |  | $                 | 94,395 |  |                 | $ | 483 |                  |  | $ | 548       |  |  | $ | 94,330 | 
|                                    |  |                   |        |  |                 |   |     |                  |  |   |           |  |  |   |        | 

Unrealized gains and losses on available-for-sale securities are reported net of tax as 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 effective interest rate
method over the period to maturity or call date.

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. As of September 30, 2010, 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 the gross unrealized losses
and related fair values in the Companys available-for-sale investment securities. This information is aggregated by the length of time that individual securities have been in a continuous unrealized loss position as of September 30, 2010
(dollars in thousands).



|                                      |  |                     |       |  |                   |   |    |           |  |   |                  |  |  |           |    |  |                  |   |        |  |  |   |     | 
|------------------------------------- |  | ------------------- | ----- |  | ----------------- | - | -- | --------- |  | - | ---------------- |  |  | --------- | -- |  | ---------------- | - | ------ |  |  | - | --- | 
|                                      |  | Less Than 12 Months |       |  | 12 Months or More |   |    | Total     | 
|                                      |  | FairValue           |       |  | UnrealizedLosses  |   |    | FairValue |  |   | UnrealizedLosses |  |  | FairValue |    |  | UnrealizedLosses |  
|U.S. Government agencies              |  | $                   | 5,243 |  |                   | $ | 47 |           |  | $ | 4,903            |  |  | $         | 76 |  |                  | $ | 10,146 |  |  | $ | 123 | 
|                                      |  |                     |       |  |                   |   |    |           |  |   |                  |  |  |           |    |  |                  |   |        |  |  |   |     | 
|Total temporarily impaired securities |  | $                   | 5,243 |  |                   | $ | 47 |           |  | $ | 4,903            |  |  | $         | 76 |  |                  | $ | 10,146 |  |  | $ | 123 | 
|                                      |  |                     |       |  |                   |   |    |           |  |   |                  |  |  |           |    |  |                  |   |        |  |  |   |     | 

A total of seven individual U.S. Government agency securities were in a continuous loss position for 12 months or more at
September 30, 2010. The Company has the ability and intent to hold these securities until such time as the value recovers or the security matures. The Company believes, based on the issuers and their credit ratings, the deterioration in value
is attributable to changes in market interest rates and not in the credit quality of the issuer and therefore, these losses are not considered to be other than temporary.

Note 3.Loans

The major components of loans at September 30, 2010 and
December 31, 2009, follow (dollars in thousands):



|                                |  |                   |         |  |                  |   |         | 
|------------------------------- |  | ----------------- | ------- |  | ---------------- | - | ------- | 
|                                |  | September 30,2010 |         |  | December 31,2009 |  
|Real estate:                    |  |                   |         |  |                  |   |         | 
|Construction and development    |  | $                 | 128,832 |  |                  | $ | 150,163 | 
|1-4 family residential          |  |                   | 123,977 |  |                  |   | 119,539 | 
|Multifamily                     |  |                   | 5,856   |  |                  |   | 7,410   | 
|Nonfarm, nonresidential         |  |                   | 179,571 |  |                  |   | 194,337 | 
|                                |  |                   |         |  |                  |   |         | 
|Total real estate               |  |                   | 438,236 |  |                  |   | 471,449 | 
|Commercial and industrial loans |  |                   | 68,640  |  |                  |   | 76,992  | 
|Consumer                        |  |                   | 4,397   |  |                  |   | 5,790   | 
|                                |  |                   |         |  |                  |   |         | 
|                                |  |                   | 511,273 |  |                  |   | 554,231 | 
|Allowance for loan losses       |  |                   | 16,655  |  |                  |   | 28,231  | 
|                                |  |                   |         |  |                  |   |         | 
|                                |  | $                 | 494,618 |  |                  | $ | 526,000 | 
|                                |  |                   |         |  |                  |   |         | 

The following table provides information about the Banks nonperforming assets as of September 30, 2010 and
December 31, 2009 (dollars in thousands):



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







|                                                                             |  |                      |        |   |                     |   |        |  
|---------------------------------------------------------------------------- |  | -------------------- | ------ | - | ------------------- | - | ------ | -
|                                                                             |  | At September 30,2010 |        |   | At December 31,2009 |  
|Nonaccrual loans                                                             |  | $                    | 24,698 |   |                     | $ | 32,792 |  
|Loan past due 90 or more days and still accruing interest                    |  |                      |       |   |                     |   |       |  
|                                                                             |  |                      |        |   |                     |   |        |  
|Total nonperforming loans                                                    |  |                      | 24,698 |   |                     |   | 32,792 |  
|Other real estate owned                                                      |  |                      | 7,044  |   |                     |   | 1,665  |  
|Repossessed assets                                                           |  |                      | 7      |   |                     |   |       |  
|                                                                             |  |                      |        |   |                     |   |        |  
|Total nonperforming assets                                                   |  | $                    | 31,749 |   |                     | $ | 34,457 |  
|                                                                             |  |                      |        |   |                     |   |        |  
|                                                                             |  |                     
|Allowance for loan losses                                                    |  | $                    | 16,655 |   |                     | $ | 28,231 |  
|                                                                             |  |                     
|Nonperforming loans to period end loans, excluding loans held for sale       |  |                      | 4.83   | % |                     |   | 5.92   | %
|                                                                             |  |                     
|Allowance for loan losses to period end loans, excluding loans held for sale |  |                      | 3.26   | % |                     |   | 5.09   | %
|                                                                             |  |                     
|Nonperforming assets as a percentage of:                                     |  |                      |        |   |                     |   |        |  
|Loans and other real estate                                                  |  |                      | 6.13   | % |                     |   | 6.20   | %
|Total assets                                                                 |  |                      | 4.08   | % |                     |   | 4.35   | %
|                                                                             |  |                     
|Ratio of allowance for loan losses to nonperforming loans                    |  |                      | 67.43  | % |                     |   | 86.09  | %

Note 4.Allowance for Loan Loss

An analysis of the changes in the allowance for loan losses follows (dollars in thousands):



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







|                                                                             |  |                                         |         |   |      |   |         |  
|---------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ---- | - | ------- | -
|                                                                             |  | For the Nine Months Ended September 30, |        
|                                                                             |  | 2010                                    |         |   | 2009 |  
|Balance at beginning of the period                                           |  | $                                       | 28,231  |   |      | $ | 9,013   |  
|Provision for loan losses                                                    |  |                                         | 9,520   |   |      |   | 18,975  |  
|Charge-offs                                                                  |  |                                         |         |   |      |   |         |  
|Construction and development                                                 |  |                                         | 13,439  |   |      |   | 5,493   |  
|1-4 family residential                                                       |  |                                         | 2,831   |   |      |   | 2,542   |  
|Multifamily                                                                  |  |                                         | 184     |   |      |   |        |  
|Nonfarm, non residential                                                     |  |                                         | 695     |   |      |   | 457     |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total real estate                                                            |  |                                         | 17,149  |   |      |   | 8,492   |  
|Commercial                                                                   |  |                                         | 4,101   |   |      |   | 1,766   |  
|Consumer                                                                     |  |                                         | 411     |   |      |   | 19      |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total charge-offs                                                            |  |                                         | 21,661  |   |      |   | 10,277  |  
|Recoveries                                                                   |  |                                         |         |   |      |   |         |  
|Construction and development                                                 |  |                                         | 331     |   |      |   | 108     |  
|1-4 family residential                                                       |  |                                         | 7       |   |      |   | 121     |  
|Nonfarm, non residential                                                     |  |                                         | 4       |   |      |   |        |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total real estate                                                            |  |                                         | 342     |   |      |   | 229     |  
|Commercial                                                                   |  |                                         | 212     |   |      |   | 20      |  
|Consumer                                                                     |  |                                         | 11      |   |      |   | 4       |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total recoveries                                                             |  |                                         | 565     |   |      |   | 253     |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Net charge-offs                                                              |  |                                         | 21,096  |   |      |   | 10,024  |  
|Balance at end of period                                                     |  | $                                       | 16,655  |   |      | $ | 17,964  |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Average loans, excluding loans held for sale                                 |  | $                                       | 531,921 |   |      | $ | 582,120 |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Period end loans, excluding loans held for sale                              |  | $                                       | 511,273 |   |      | $ | 570,289 |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Net charge-offs to average loans, excluding loans held for sale (1)          |  |                                         | 5.30    | % |      |   | 2.30    | %
|                                                                             |  |                                         |         |   |      |   |         |  
|Allowance for loan losses to period end loans, excluding loans held for sale |  |                                         | 3.26    | % |      |   | 3.15    | %
|                                                                             |  |                                         |         |   |      |   |         |  



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

Note 5.Net Loss
Per Share

Basic loss per share represents the net loss allocated to common stockholders divided by the weighted-average number of common
shares outstanding during the period. Dilutive loss 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 stock warrants, and are determined using the treasury stock method.

For the nine months ended
September 30, 2010, basic and diluted weighted average shares outstanding totaled 5,070,462 amounting to basic loss per share and diluted loss per share of $(0.96) per share for the period. For the nine months ended September 30, 2009,
basic weighted average shares outstanding and diluted weighted average shares outstanding totaled 5,000,990 resulting in basic loss per share and diluted loss per share of $(1.93) per share for the period.

Additionally, 810,066 shares attributable to outstanding stock options and 276,815 warrants to purchase common stock were excluded from the calculation
of diluted loss per share for the nine months ended September 30, 2010,



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010





because their inclusion would have been anti-dilutive. For the nine months ended September 30, 2009, 890,682 shares and 276,815 warrants were excluded from the diluted loss per share
calculations for the same reason.

Note 6. 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 consolidated 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, 2010 and
December 31, 2009, follows (dollars in thousands):



|                             |  |                   |        |  |                  |   |        | 
|---------------------------- |  | ----------------- | ------ |  | ---------------- | - | ------ | 
|                             |  | September 30,2010 |        |  | December 31,2009 |  
|Commitments to extend credit |  | $                 | 62,024 |  |                  | $ | 66,582 | 
|Standby letters of credit    |  |                   | 1,296  |  |                  |   | 3,301  | 
|                             |  |                   |        |  |                  |   |        | 
|                             |  | $                 | 63,320 |  |                  | $ | 69,883 | 
|                             |  |                   |        |  |                  |   |        | 

Note 7. Stock-based Compensation

In 2008, the Companys shareholders approved the Omnibus Plan, pursuant to which incentive stock options, nonqualified stock options, performance shares, stock appreciation rights, and restricted
stock may be granted to officers and employees of the Company and the Bank, and nonqualified stock options and restricted stock awards be granted to directors of the Company and the Bank. An additional 250,000 shares of the Companys common
stock was reserved and made available for awards under the Omnibus Plan.

Stock Options

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 the Companys 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. No options were granted during the three or nine-month periods ended September 30, 2010.

The Company recognized $24,902 in stock compensation expense during the first nine months of 2010, compared to $18,648 during the first nine months of 2009 related to the vesting of stock options during
those periods.

A summary of option activity under the Companys stock option plans is as follows:



|                                 |  |                    |         |  |                              |   |      |                                 |  |  |                 |  |  |   |   | 
|-------------------------------- |  | ------------------ | ------- |  | ---------------------------- | - | ---- | ------------------------------- |  |  | --------------- |  |  | - | - | 
|                                 |  | OptionsOutstanding |         |  | WeightedAverageExercisePrice |   |      | AverageRemainingContractualTerm |  |  | InstrinsicValue | 
|Outstanding, January 1, 2010     |  |                    | 867,255 |  |                              | $ | 8.43 |                                 |  |  |                 |  |  |   |   | 
|Granted                          |  |                    |        |  |                              |   |     |                                 |  |  |                 |  |  |   |   | 
|Forfeited                        |  |                    | 57,189  |  |                              |   | 6.02 |                                 |  |  |                 |  |  |   |   | 
|Exercised                        |  |                    |        |  |                              |   |     |                                 |  |  |                 |  |  |   |   | 
|                                 |  |                    |         |  |                              |   |      |                                 |  |  |                 |  |  |   |   | 
|Outstanding, September 30, 2010  |  |                    | 810,066 |  |                              | $ | 8.60 |                                 |  |  | 4.58 Years      |  |  | $ |  | 
|                                 |  |                    |         |  |                              |   |      |                                 |  |  |                 |  |  |   |   | 
|Exerciseable, September 30, 2010 |  |                    | 801,566 |  |                              | $ | 8.54 |                                 |  |  | 4.57 Years      |  |  | $ |  | 
|                                 |  |                    |         |  |                              |   |      |                                 |  |  |                 |  |  |   |   | 



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







During 2010, no options were
granted or exercised; however, options were forfeited. As of September 30, 2010, there was $11,549 of total unrecognized compensation cost related to the outstanding stock options that will be recognized over a weighted-average period of
0.60 years. There is no intrinsic value in these stock options as of September 30, 2010, as the exercise prices are greater than the last traded price of the Companys common stock.

Service-Based Awards

The Company recognizes compensation (salaries and employee
benefits) expense over the restricted period for service-based awards. Compensation expense recognized for nonvested service-based shares during the nine months ended September 30, 2010 and 2009, totaled $62,667 and $16,560, respectively. The
shares issued vest ratably over three-to-five years.

Non-vested share activity under the Plan at and for the nine months ended
September 30, 2010 follows:



|                                  |  |        |        |  
|--------------------------------- |  | ------ | ------ | -
|                                  |  | Shares |       
|Outstanding at December 31, 2009  |  |        | 10,000 |  
|Granted                           |  |        | 50,165 |  
|Vested                            |  |        | (2,000 | )
|Forfeited                         |  |        |       |  
|                                  |  |        |        |  
|Outstanding at September 30, 2010 |  |        | 58,165 |  
|                                  |  |        |        |  

As of September 30, 2010, there was $88,742 of total unrecognized compensation cost related to service-based nonvested
share-based compensation arrangements granted under the Plan. This cost is expected to be recognized over a remaining weighted-average period of 0.71 years.

Note 8. Fair Value Measurements

The Company has adopted ASC Topic 820, Fair Value
Measurements and Disclosures, which provides a framework for measuring and disclosing fair value under generally accepted accounting principles. ASC Topic 820 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).

Fair value is defined 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. ASC Topic 820 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 | Valuation can be based on quoted prices in active markets for identical assets or liabilities.
|------- | ----------------------------------------------------------------------------------------------



|Level 2 | Valuation can be based on quoted prices for similar assets or liabilities; quoted prices in markets that are not active/or models using inputs that are observable or
can be corroborated by observable market data of substantially the full term of the assets or liabilities.
|------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|Level 3 | Valuation can be based on using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is
unobservable and when determination of the fair value requires significant management judgment or estimation.
|------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Assets and
liabilities measured at fair value on a recurring basis as of September 30, 2010 and December 31, 2009 are as follows (dollars in thousands):



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







|                                    |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|----------------------------------- |  | --------------------------------------------- | - |  | ------------------------------------------- | - | ------- | --------------------------------------- |  | - | - | 
|                                    |  | September 30, 2010                            |  
|                                    |  | Quoted market pricein active markets(Level 1) |   |  | Significant otherobservable inputs(Level 2) |   |         | Significantunobservable inputs(Level 3) | 
|Available-for-sale securities:      |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|U.S. Government agencies            |  | $                                             |  |  |                                             | $ | 27,758  |                                         |  | $ |  | 
|Government-sponsored enterprises    |  |                                               |  |  |                                             |   | 30,200  |                                         |  |   |  | 
|Mortgage-backed securities          |  |                                               |  |  |                                             |   | 86,923  |                                         |  |   |  | 
|                                    |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total securities available for sale |  | $                                             |  |  |                                             | $ | 144,881 |                                         |  | $ |  | 
|                                    |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|                                    | 
|                                    |  | December 31, 2009                             |  
|                                    |  | Quoted market pricein active markets(Level 1) |   |  | Significant otherobservable inputs(Level 2) |   |         | Significantunobservable inputs(Level 3) | 
|Available-for-sale securities:      |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|U.S. Government agencies            |  | $                                             |  |  |                                             | $ | 26,596  |                                         |  | $ |  | 
|Government-sponsored enterprises    |  |                                               |  |  |                                             |   | 502     |                                         |  |   |  | 
|Mortgage-backed securities          |  |                                               |  |  |                                             |   | 67,232  |                                         |  |   |  | 
|                                    |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total securities available for sale |  | $                                             |  |  |                                             | $ | 94,330  |                                         |  | $ |  | 
|                                    |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 

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



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







Assets measured at fair value on a
nonrecurring basis as of September 30, 2010 and December 31, 2009, are as follows (dollars in thousands):



|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|--------------------------------------------------------- |  | --------------------------------------------- | - |  | ------------------------------------------- | - | ------- | --------------------------------------- |  | - | - | 
|                                                          |  | September 30, 2010                            |  
|                                                          |  | Quoted market pricein active markets(Level 1) |   |  | Significant otherobservable inputs(Level 2) |   |         | Significantunobservable inputs(Level 3) | 
|Impaired loans:                                           |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Construction and development                              |  | $                                             |  |  |                                             | $ | 44,294  |                                         |  | $ |  | 
|1-4 family residential                                    |  |                                               |  |  |                                             |   | 17,266  |                                         |  |   |  | 
|Nonfarm, non residential                                  |  |                                               |  |  |                                             |   | 22,589  |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total impaired real estate loans                          |  |                                               |   |  |                                             |   | 84,149  |                                         |  |   |   | 
|Commercial and industrial                                 |  |                                               |  |  |                                             |   | 6,809   |                                         |  |   |  | 
|Consumer                                                  |  |                                               |  |  |                                             |   |        |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total impaired loans                                      |  |                                               |  |  |                                             |   | 90,958  |                                         |  |   |  | 
|Mortgage loans held for sale                              |  |                                               |  |  |                                             |   | 9,709   |                                         |  |   |  | 
|Real estate and other assets acquired through foreclosure |  |                                               |  |  |                                             |   | 7,051   |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|                                                          |  | $                                             |  |  |                                             | $ | 107,718 |                                         |  | $ |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|                                                          | 
|                                                          |  | December 31, 2009                             |  
|                                                          |  | Quoted market pricein active markets(Level 1) |   |  | Significant otherobservable inputs(Level 2) |   |         | Significantunobservable inputs(Level 3) | 
|Impaired loans:                                           |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Construction and development                              |  | $                                             |  |  |                                             | $ | 40,963  |                                         |  | $ |  | 
|1-4 family residential                                    |  |                                               |  |  |                                             |   | 20,078  |                                         |  |   |  | 
|Nonfarm, non residential                                  |  |                                               |  |  |                                             |   | 11,098  |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total impaired real estate loans                          |  |                                               |   |  |                                             |   | 72,139  |                                         |  |   |   | 
|Commercial and industrial                                 |  |                                               |  |  |                                             |   | 8,702   |                                         |  |   |  | 
|Consumer                                                  |  |                                               |  |  |                                             |   | 215     |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|Total impaired loans                                      |  |                                               |  |  |                                             |   | 81,056  |                                         |  |   |  | 
|Mortgage loans held for sale                              |  |                                               |  |  |                                             |   | 4,501   |                                         |  |   |  | 
|Real estate and other assets acquired through foreclosure |  |                                               |  |  |                                             |   | 1,667   |                                         |  |   |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 
|                                                          |  | $                                             |  |  |                                             | $ | 87,224  |                                         |  | $ |  | 
|                                                          |  |                                               |   |  |                                             |   |         |                                         |  |   |   | 

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.

Real estate acquired in settlement of loans is adjusted to fair value upon transfer of the loans. Subsequently, the assets are carried at the lower of
carrying value or fair value less costs to sell. Fair value is based upon independent market prices, fair values of the collateral or managements estimation of the value of the collateral. When the fair value of the collateral is based on an
observable market price or current appraised value, the Company records the asset as nonrecurring Level 2 inputs.



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







Mortgage loans held for sale are
carried at the lower of cost or fair value. The fair value of mortgage loans held for sale is based on what secondary markets are currently offering for portfolios with similar characteristics and accordingly, considered nonrecurring Level 2 inputs.

There were no transfers of assets measured at fair value between Level 1 and Level 2 measurements during the third quarter or nine months of
2010.

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

The table below summarizes fair value estimates as of September 30, 2010 and December 31, 2009, for the Companys financial instruments.
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:

Cash and Noninterest-Bearing Bank Deposits, Federal Funds Sold, Interest-Bearing Deposits with Banks and Due from Federal Reserve Bank

The carrying amounts for cash and noninterest-bearing bank deposits, federal funds sold, interest-bearing deposits with banks and due from Federal Reserve Bank approximate fair value because of the short
maturities of those instruments. These instruments are considered cash and cash equivalents.

Investment Securities

Fair values for investment securities are based on quoted market price if such information is available. If a quoted market price is not available, fair
value is estimated using quoted market prices for similar securities.

Investment in Real Estate Partnership

Fair values for the investment in real estate partnership are based on estimates of future cash flows discounted to the present value.

Loans Held for Sale

Fair values of
mortgage loans held for sale are based on commitments on hand from investors or prevailing market prices.

Loans

For certain homogenous categories of loans, such as residential mortgages, fair value is estimated using the quoted market prices for securities backed by
similar loans, adjusted for differences in loan characteristics. The fair value of other types of loans is estimated by discounting the future cash flows, using the current rate at which similar loans would be made to borrowers with similar credit
ratings and for the same remaining maturities.

Bank-Owned Life Insurance

The carrying value of life insurance approximates fair value since this investment is carried at cash surrender value, as determined by the insurer.

Deposits, Short-term Borrowings and Long-term Debt

The fair value of demand deposits and savings accounts is the amount payable on demand at the reporting date. The fair value of time deposits, short-term borrowings and long-term debt is estimated based
upon the discounted value of projected future cash outflows using the rate currently offered for instruments of similar remaining maturities.

In accordance with ASC Topic 825, the Company has not included assets and liabilities that are not financial instruments in its disclosure, such as the
value of the long-term relationships with the Companys deposit and loan customers, net premises and equipment, net core deposit intangibles, deferred taxes and other assets and liabilities.

Additionally, the amounts in the table have not been updated since the date indicated; therefore the valuations may have changed since that point in
time. For these reasons, the total of the fair value calculations presented does not represent, and should not be construed to represent, the underlying value of the Company.



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##### Table of Contents

1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







The estimated fair value of the
Companys financial instruments as of September 30, 2010 and December 31, 2009, is as follows (dollars in thousands):



|                                                                           |  |                    |         |  |                   |   |         |                 |  |   |           |  |  |   |         | 
|-------------------------------------------------------------------------- |  | ------------------ | ------- |  | ----------------- | - | ------- | --------------- |  | - | --------- |  |  | - | ------- | 
|                                                                           |  | September 30, 2010 |         |  | December 31, 2009 |  
|                                                                           |  | Carrying Amount    |         |  | FairValue         |   |         | Carrying Amount |  |   | FairValue | 
|Financial Assets:                                                          |  |                    |         |  |                   |   |         |                 |  |   |           |  |  |   |         | 
|Cash and cash equivalents                                                  |  | $                  | 74,621  |  |                   | $ | 74,621  |                 |  | $ | 121,830   |  |  | $ | 121,830 | 
|Investment securities available for sale                                   |  |                    | 144,881 |  |                   |   | 144,881 |                 |  |   | 94,330    |  |  |   | 94,330  | 
|Investment securities held to maturity                                     |  |                    | 2,765   |  |                   |   | 2,900   |                 |  |   | 805       |  |  |   | 834     | 
|Investment in real estate partnership                                      |  |                    | 6,667   |  |                   |   | 7,012   |                 |  |   | 6,667     |  |  |   | 7,012   | 
|Loans held for sale                                                        |  |                    | 9,709   |  |                   |   | 9,709   |                 |  |   | 4,501     |  |  |   | 4,501   | 
|Loans                                                                      |  |                    | 511,273 |  |                   |   | 493,259 |                 |  |   | 554,231   |  |  |   | 551,575 | 
|Bank owned life insurance                                                  |  |                    | 12,402  |  |                   |   | 12,402  |                 |  |   | 12,055    |  |  |   | 12,055  | 
|Financial Liabilities:                                                     |  |                    |         |  |                   |   |         |                 |  |   |           |  |  |   |         | 
|Deposits                                                                   |  |                    | 689,898 |  |                   |   | 653,964 |                 |  |   | 673,282   |  |  |   | 638,855 | 
|Federal funds purchased and securities sold under agreements to repurchase |  |                    | 1,245   |  |                   |   | 1,245   |                 |  |   | 1,270     |  |  |   | 1,270   | 
|Borrowings                                                                 |  |                    | 41,022  |  |                   |   | 41,117  |                 |  |   | 70,000    |  |  |   | 70,011  | 

Note 9. Employee Stock Purchase
Plan

The Company has a non-compensatory Employee Stock Purchase Plan for the benefit of officers and employees of the Bank whereby
officers and employees are allowed to have the Company make payroll withholdings for the purpose of buying Company stock.

The purchase price
is 95 percent of the closing quoted market price of the last business day of the quarter. Shares for the quarter are purchased during the first month of the following quarter. During the first nine months of 2010, the Company issued 20,126 shares
under this plan.

This Plan was terminated in October of 2010.

Note 10. Capital Requirements

The Company and the Bank are subject to various regulatory
capital requirements administered by federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory (and possibly additional discretionary) actions by regulators that, if undertaken, could have a
direct material effect on the Companys and the Banks financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve
quantitative measures of the Banks assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Banks capital amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of
total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets, as all those terms are defined in the applicable regulations.

As of September 30, 2010, the Banks primary federal regulator categorized the Bank as adequately-capitalized under the regulatory framework for prompt corrective action. Actual
capital amounts and ratios for the Company and the Bank at September 30, 2010 are presented in the following table (dollars in thousands):



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1stFinancial Services Corporation

Notes to Consolidated Financial Statements (Unaudited)

September 30, 2010







|                                        |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|--------------------------------------- |  | ------ | ------ |  | ------------------------------ |  | ---- | ------------------------ |  | - | ------ |  |  | ------ | ---- | - | ----- | - | ------ |  |  |  | ----- | -
|                                        |  | Actual |        |  | To Be Adequately-Capitalized |  |      | To Be Well Capitalized | 
|                                        |  | Amount |        |  | Ratio                          |  |      | Amount                   |  |   | Ratio  |  |  | Amount |      |   | Ratio |  
|September 30, 2010                      |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Total Capital(to Risk-Weighted Assets)  |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 41,659 |  |                                |  | 8.42 | %                        |  | $ | 39,592 |  |  |        | 8.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 41,575 |  |                                |  | 8.40 | %                        |  | $ | 39,586 |  |  |        | 8.00 | % |       | $ | 49,483 |  |  |  | 10.00 | %
|Tier I Capital(to Risk-Weighted Assets) |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 35,344 |  |                                |  | 7.14 | %                        |  | $ | 19,796 |  |  |        | 4.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 35,261 |  |                                |  | 7.13 | %                        |  | $ | 19,793 |  |  |        | 4.00 | % |       | $ | 29,690 |  |  |  | 6.00  | %
|Tier I Capital(to Average Assets)       |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 35,344 |  |                                |  | 4.59 | %                        |  | $ | 30,775 |  |  |        | 4.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 35,261 |  |                                |  | 4.58 | %                        |  | $ | 30,772 |  |  |        | 4.00 | % |       | $ | 38,465 |  |  |  | 5.00  | %

The Consent Order requires the Bank to
have and maintain Tier I Capital in such an amount as to equal or exceed 8% of the Banks total assets and total risk-based capital in such an amount as to equal or exceed 12% of the Banks total risk-weighted assets. Plans are being
formulated as to the type and amount of an equity infusion. Given the state of equity markets currently, our ability to raise capital in the foreseeable future is unknown. If additional equity cannot be secured, or can only be secured at an
unexpectedly high cost, this could adversely affect the Company.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





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

Introduction

1stFinancial Services Corporation (the Company) is a North
Carolina corporation headquartered in Hendersonville, North Carolina that when it was formed 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 14
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 consolidated 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 consolidated financial statements and the notes thereto located herein and in the Companys filing on Form 10-K for the year ended
December 31, 2009.

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) the impact of the extensive reforms enacted in the Dodd-Frank Wall Street Reform and Consumer Protection Act, the precise nature,
extent and timing of many of these reforms and the impact on us is still uncertain; (2) competitive pressure among depository institutions increases significantly; (3) credit quality deterioration which could cause an increase in the
provisions for loan losses; (4) general economic conditions, particularly those affecting real estate values, either nationally or in the market area in which we do or anticipate doing business, are worse than expected; (5) regulatory
limitations or prohibitions with respect to the operations or activities of the Company and/or the Bank; (6) revenues are lower than expected; (7) the availability of and/or an unexpectedly high cost of additional capital; (8) the
effects of the Federal Deposit Insurance Corporation (FDIC) deposit insurance premiums and assessments; (9) the effects of and changes in monetary and fiscal policies and laws, including the interest rate policies of the Federal
Reserve Board; (10) volatility in the credit or equity markets and its effect on the general economy; (11) demand for the products or services of the Company, as well as its ability to attract and retain qualified people; (12) our
failure to meet the capital ratio requirements in the Stipulation to the Issuance of Consent Order (the Stipulation) agreeing to the issuance of a Consent Order (the Consent Order) with the FDIC and the North Carolina
Commissioner of Banks (the Commissioner); (13) our failure to comply with the terms of the Written Agreement (the Agreement) between the Company and the Federal Reserve Board of Richmond (the FRB), including
but not limited to the requirement to submit written capital plans to the FRB; (14) the effect of other requirements in the Consent Order and the FRB Agreement, to which we are subject and any further regulatory actions; (15) the costs and
effects of legal, accounting and regulatory developments and compliance, including the Consent Order; and (16) factors discussed in reports previously filed by the Company.

The Company cautions the foregoing list of important factors is not exhaustive.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







Enforcement Policies and
Actions

Federal law gives the FDIC substantial powers to enforce compliance with laws, rules and regulations. Banks or individuals may
be ordered to cease and desist from violations of law or other unsafe and unsound practices. The agency has the power to impose civil money penalties against individuals or institutions for certain violations.

Persons who are affiliated with depository institutions can be removed from any office held in that institution and banned from participating in the
affairs of any financial institution. The banking regulators frequently employ the enforcement authorities provided in federal law.

During
the first quarter of 2010, the Bank entered into the Stipulation agreeing to the issuance of the Consent Order with the FDIC and the Commissioner. Although the Bank neither admitted nor denied any unsafe or unsound banking practices or violations of
law or regulation, it agreed to the Consent Order, which requires it to undertake a number of actions including implementing plans to improve documentation regarding risk management and compliance systems, oversight and review functions, operating
and financial management and capital plans. As a result, the Company expects to continue its focus on improving asset quality and profitability until capital levels are increased. The Consent Order and the actions the Bank has taken to comply with
the Consent Order are discussed in further detail in Items 1 and 7 contained in the Companys filing on Form 10-K for the year ended December 31, 2009.

As a direct consequence of the issuance of the Consent Order and the requirement the Company serve as a source of strength for the Bank, on October 8, 2010, the Company executed the FRB Agreement
with the FRB. The FRB Agreement was executed by the FRB on October 13, 2010, and the Company received notification of the effectiveness of the FRB Agreement on October 19, 2010. The Company filed an 8-K giving notice of the FRB Agreement
on October 25, 2010.

Regulatory Reform

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 was signed into law on July 21, 2010. The Act is a significant piece of legislation that will have major effects on the financial
services industry, including the organization, financial condition and operations of banks and bank holding companies. Management is currently evaluating the impact of the Act, however, uncertainty remains as to its operational impact, which could
have a material adverse impact on the Companys business, results of operations and financial condition. Many of the provisions of the Act are aimed at financial institutions that are significantly larger than the Company and the Bank.
Notwithstanding this, there are many other provisions that the Company and the Bank are subject to and will have to comply with, including any new rules applicable to the Company and the Bank promulgated by the Bureau of Consumer Financial
Protection, a new regulatory body dedicated to consumer protection. As rules and regulations are published by the agencies responsible for implementing and enforcing the Act, the Company and the Bank will have to address each to ensure compliance
with applicable provisions of the Act and compliance costs are expected to increase.

Critical Accounting Policies

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,
2009, contained in the Companys filing on Form 10-K.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







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

Western North Carolina is undergoing one of the most severe economic recessions in our history. Unemployment is at record levels and both residential and
commercial real estate values have been adversely impacted. In an attempt to bolster the economy, the Federal Reserve embarked in 2007 to dramatically reduce interest rates. From late 2007 through 2008, the Fed reduced rates by 425 basis points.
With the slowing economy, falling real estate values and reducing interest rates, our Company experienced severe stress on our earnings from both depressed margins and worsening asset quality. These conditions led to our increasing the allowance for
loan losses by $29.9 million in 2009 and suffering a net loss in 2009 of $18.6 million. While we expect to see some net interest margin improvement during the remainder of 2010 and into 2011, we also expect to incur increased expense as we manage
our troubled assets. Our markets continue to feel the effects of the recession and we do not foresee substantial improvements in either unemployment or real estate values until 2011, at the earliest. Continued weakness in the Western North Carolina
real estate markets was the primary reason for the Banks increased provision for loan losses and loan charge-offs during the third quarter 2010.

Overview

The Companys primary market area is located in the mountain region
of southwestern North Carolina. The principal business sectors in this region include service companies directly or indirectly linked to tourism, which is one of the largest economic drivers 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 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, 2010, loans collateralized by real estate, comprise approximately 85% of the Banks total loan portfolio.
Management believes 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 both income-producing and owner-occupied
commercial properties. The Banks loan portfolio includes $128.8 million in loans classified as construction or acquisition and development (of which $65.9 million are land loans) and $179.6 million in loans classified as commercial real estate
(CRE), representing 25.2% and 35.1%, respectively of the total portfolio. By way of comparison, at December 31, 2009, the Banks loan portfolio included $150.2 million in loans classified as construction or acquisition and development (of
which $72.1 million were land loans) and $194.3 million in loans classified as CRE, representing 27.1% and 35.1%, respectively of the total portfolio.

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. At September 30, 2010, loans exceeding regulatory loan-to-value guidelines represented 109.4% of risk-based capital, primarily due to market value declines on the underlying
collateral of the Companys real estate loan portfolio, combined with a lowered risk-based capital due to losses incurred in 2009 and 2010.

Banking regulators have continued to issue guidance to banks concerning their perception of general risk levels associated with higher concentrations of 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.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







The Companys total assets
were $778.3 million at September 30, 2010, a decrease of $14.7 million, from $793.0 million at December 31, 2009. The Companys total deposits were $689.9 million at September 30, 2010, an increase of $16.6 million, from $673.3
million at December 31, 2009. Funding provided by the $16.6 million net increase in deposits was used along with proceeds from loan repayments and cash on deposit with the Federal Reserve to purchase investment securities. As evidenced by the
decrease in assets for the first nine months of 2010, overall growth plans have now been purposely slowed in response to the Banks asset quality deterioration, uncertainties with respect to the national economy, regional and local real estate
markets, the domestic interest rate environment and global currency markets and in order to maintain satisfactory capital requirements. The Company expects further declines in total assets throughout the remainder of 2010.

For the first five years of operation, 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. However, due to the current economic environment, management does not expect to continue to open new branch offices to augment the current branch network for the
foreseeable future and may close certain offices to improve operating efficiencies. Instead, management will focus on its nonperforming loan portfolio and its other real estate owned, while simultaneously growing existing branches in its primary
markets.

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, Small Business Administration (SBA) and USDA loan originations and sales, and residential mortgage origination
services.

Maintaining sound asset quality is another key focal point for the Company. As a result of the current economic environment, the
Bank experienced an increase in nonperforming assets (nonaccruing loans and accruing loans past due 90 or more days) beginning in 2009, which resulted in a significant increase in our allowance for loan losses. 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, but we believe we have made substantial progress in identifying and quantifying the impact of the current economic environment on our loan portfolio and overall financial condition.
Management continues to engage third-party consultants to assist in monitoring and evaluating the quality of the portfolio.

Financial
Overview

The Companys assets decreased by $14.7 million during the first three quarters of 2010, from $793.0 million at
December 31, 2009 to $778.3 million at September 30, 2010. Investment securities climbed by $52.5 million, or 55.2%, from $95.1 million at December 31, 2009 to $147.6 million at September 30, 2010. During the first three quarters
of 2010, gross loans decreased by $37.7 million, or 6.7% from $558.7 million at December 31, 2009 to $521.0 million at September 30, 2010, as management purposely slowed loan growth in response to current economic conditions. During the
same period, deposits increased to $689.9 million on September 30, 2010, compared with $673.3 million at the end of 2009, an increase of $16.6 million, or 2.5%. Borrowings from the Federal Home Loan Bank of $15.0 million were repaid during the
third quarter with $35.0 million outstanding at September 30, 2010. The Companys loan-to-asset ratio decreased from 70.5% at December 31, 2009, to 66.9% at September 30, 2010, principally reflecting an increase in loan
repayments over loan production. During the third quarter of 2010, the Company recorded a net loss of $4.8 million, compared to a net loss of $7.8 million for the 2009 third quarter. Provision for loan losses was $8.5 million for the third quarter
of 2010, compared to $14.0 million for the third quarter of 2009. During the same period, the Companys net interest margin decreased to 2.80%, compared with 3.31% for the third quarter of 2009, primarily as a result of higher levels of cash
equivalents and nonaccrual loans combined with historically low interest rates. Accordingly, net interest income for the quarter decreased to $5.3 million, compared with $5.7 million for the third quarter of 2009. Noninterest income for the quarter
totaled $2.0 million, compared to $1.2 million recorded during the third quarter of 2009, driven by increased SBA and mortgage services revenue and increased gains on the securities sold. Noninterest expense for the third quarter increased to $6.6
million, compared with $5.4 million during the same period in 2009. The increase in noninterest expense was driven primarily by higher salary costs and significantly higher holding costs of and write-downs on other real estate owned. The duration
and severity of the current recession continue to have a substantial negative impact on the Companys performance.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







Loans

Net loans outstanding (excluding loans held for sale) were $494.6 million at September 30, 2010, compared to $526.0 million on December 31,
2009, a decrease of $31.4 million, or 5.97%. Before the allowance for loan losses, outstanding loans decreased $42.9 million, or 7.74%, from $554.2 million at December 31, 2009 to $511.3 million at September 30, 2010. The major components
of loans follow (dollars in thousands):



|                                |  |                   |         |  |                  |   |         | 
|------------------------------- |  | ----------------- | ------- |  | ---------------- | - | ------- | 
|                                |  | September 30,2010 |         |  | December 31,2009 |  
|Real estate:                    |  |                   |         |  |                  |   |         | 
|Construction and development    |  | $                 | 128,832 |  |                  | $ | 150,163 | 
|1-4 family residential          |  |                   | 123,977 |  |                  |   | 119,539 | 
|Multifamily                     |  |                   | 5,856   |  |                  |   | 7,410   | 
|Nonfarm, nonresidential         |  |                   | 179,571 |  |                  |   | 194,337 | 
|                                |  |                   |         |  |                  |   |         | 
|Total real estate               |  |                   | 438,236 |  |                  |   | 471,449 | 
|Commercial and industrial loans |  |                   | 68,640  |  |                  |   | 76,992  | 
|Consumer                        |  |                   | 4,397   |  |                  |   | 5,790   | 
|                                |  |                   |         |  |                  |   |         | 
|                                |  |                   | 511,273 |  |                  |   | 554,231 | 
|Allowance for loan losses       |  |                   | 16,655  |  |                  |   | 28,231  | 
|                                |  |                   |         |  |                  |   |         | 
|                                |  | $                 | 494,618 |  |                  | $ | 526,000 | 
|                                |  |                   |         |  |                  |   |         | 

Approximately $36.5 million of our outstanding loans are attributable to a relationship that has been established with Live
Oak Bank, a de novo state chartered bank located in eastern North Carolina. Live Oak Bank focuses on the origination and servicing of loans to small businesses, primarily small business loans guaranteed by the SBA. The Bank has worked with Live Oak
Bank since its inception to originate loans. The Bank also originates, services and sells SBA loans on its own. We expect to continue both originating and purchasing SBA loans and management feels this will positively impact future earnings.

Management expects loan growth will continue to be muted during the remainder of 2010 and into early 2011 as a result of the economic
uncertainties that are expected to persist for the foreseeable future.

Deposits

Total deposits at September 30, 2010 were $689.9 million, compared to $673.3 million on December 31, 2009, an increase of $16.6 million, or
2.5%. The rise in deposits was attributable to increases of $4.6 million in demand deposits, $21.8 million in savings deposits, and $7.8 million in money market accounts, partially offset by declines of $823,000 and $16.7 million in interest-bearing
checking accounts and certificates of deposits, respectively. Through our branch network, the Bank continues to attract new depository customers seeking value-added service. In addition to attracting new core deposit customers, our existing
customers, in this low interest rate environment, are exhibiting a preference to maintaining their funds in short-term liquid investments, such as our savings and money market deposit accounts. As a consequence, customers are often taking the funds
from maturing certificates and depositing them into savings, checking, and money market accounts.

Borrowings

As of September 30, 2010, the Company had total borrowings of $42.3 million, compared to $71.3 million at December 31, 2009. Borrowings from the
Federal Home Loan Bank declined, through early repayment from $70.0 million at year-end 2009 to $35.0 million at September 30, 2010. The Bank used excess liquidity to reduce its outstanding borrowings by $15.0 million during the third quarter
and incurred a $9,300 prepayment penalty on the early repayment of this debt and also reduced the borrowings by $20 million in the second quarter, incurring a prepayment penalty of $66,000.

Stockholders Equity

Consolidated stockholders equity declined to $40.4
million, or 5.2%, of total assets at September 30, 2010, compared to $43.8 million, or 5.5%, of total assets at December 31, 2009. The Companys $4.1 million net loss for the first nine months of 2010 mainly contributed to the
decline. A $562,000 decrease resulting from the payment of the dividends and accretion of discount on our preferred stock, partially offset by a $1.0 million increase in net unrealized gains on available for sale securities (net of income taxes)
were the other factors contributing to the



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





change in stockholders equity during the nine-month period. Book value per common share decreased by $0.77 per share to $4.85 at September 30, 2010, compared to $5.62 per share at
December 31, 2009.

No cash dividends have been declared on common stock during 2010, and management does not anticipate cash dividends
on common stock for the foreseeable future. Further, in August 2010, the Company deferred the $205,000 payment of cash dividends on its preferred stock. The Company expects to again defer the $205,000 payment of the preferred dividend in November
2010, due to insufficient funding.

As of September 30, 2010, the Banks primary regulator categorized the Bank as
adequately-capitalized under the regulatory framework for prompt corrective action. Actual capital amounts and ratios for the Company and the Bank at September 30, 2010 are presented in the following table (dollars in thousands):



|                                        |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|--------------------------------------- |  | ------ | ------ |  | ------------------------------ |  | ---- | ------------------------ |  | - | ------ |  |  | ------ | ---- | - | ----- | - | ------ |  |  |  | ----- | -
|                                        |  | Actual |        |  | To Be Adequately-Capitalized |  |      | To Be Well Capitalized | 
|                                        |  | Amount |        |  | Ratio                          |  |      | Amount                   |  |   | Ratio  |  |  | Amount |      |   | Ratio |  
|September 30, 2010                      |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Total Capital(to Risk-Weighted Assets)  |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 41,659 |  |                                |  | 8.42 | %                        |  | $ | 39,592 |  |  |        | 8.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 41,575 |  |                                |  | 8.40 | %                        |  | $ | 39,586 |  |  |        | 8.00 | % |       | $ | 49,483 |  |  |  | 10.00 | %
|Tier I Capital(to Risk-Weighted Assets) |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 35,344 |  |                                |  | 7.14 | %                        |  | $ | 19,796 |  |  |        | 4.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 35,261 |  |                                |  | 7.13 | %                        |  | $ | 19,793 |  |  |        | 4.00 | % |       | $ | 29,690 |  |  |  | 6.00  | %
|Tier I Capital(to Average Assets)       |  |        |        |  |                                |  |      |                          |  |   |        |  |  |        |      |   |       |   |        |  |  |  |       |  
|Company                                 |  | $      | 35,344 |  |                                |  | 4.59 | %                        |  | $ | 30,775 |  |  |        | 4.00 | % |       | $ | n/a    |  |  |  | n/a   |  
|Bank                                    |  | $      | 35,261 |  |                                |  | 4.58 | %                        |  | $ | 30,772 |  |  |        | 4.00 | % |       | $ | 38,465 |  |  |  | 5.00  | %

The Consent Order requires the Bank to
have and maintain Tier I Capital in such an amount as to equal or exceed 8% of the Banks total assets and total risk-based capital in such an amount as to equal or exceed 12% of the Banks total risk-weighted assets. Plans are being
formulated as to the type and amount of an equity infusion. Given the state of equity markets currently, our ability to raise capital in the foreseeable future is unknown. If additional equity cannot be secured, or can only be secured at an
unexpectedly high cost, this could adversely affect the Company.

Asset Quality

Over the course of the past three years, national credit quality has deteriorated as real estate markets have been hit with slowing sales and declining
prices. The markets in which the Bank operates have also been affected by such downturns.

Although management believes the Company
appropriately reserved for our problem assets at year-end 2009, we nonetheless continue to experience the effects of asset devaluation in our markets as the economy and businesses struggle to recover. We have recently allocated significant
additional resources toward expeditious resolution of our nonperforming loans and those assets we have foreclosed upon. We anticipate additional provisioning and charge-offs during the remainder of the year to stay ahead of this aggressive
resolution process. As of September 30, 2010, nonperforming assets were $31.7 million, down $2.8 million from $34.5 million at December 31, 2009. As a percentage of period-end portfolio loans and other real estate, nonperforming assets
were 6.13% at September 30, 2010, versus 6.20% at year-end 2009. The allowance for loan losses as of percentage of period-end portfolio loans stood at 3.26% at September 30, 2010, down from 5.09% at December 31, 2009, mainly
reflecting $21.1 million in net charge-offs taken during 2010, partially offset by a decline in outstanding loan balances. Management expects the level of nonperforming assets to increase during the fourth quarter of 2010.

The provision for loan losses was $9.5 million for the 2010 nine-month period, compared to $14.0 million in the year-earlier period, while net
charge-offs were $21.1 million in the 2010 first three quarters, compared to net charge-offs of $10.0 million for the first three quarters of 2009. The increase in net charge-offs resulted principally from recognition of losses previously reserved
for as these loans were worked through the Banks asset resolution



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





process. In addition, as part of this resolution process, management provides for additional losses through increases to its allowance for loan losses.

As of September 30, 2010, the Company had $14.1 million in loans 30 to 90 days delinquent, no loans over 90 days delinquent and still accruing
interest, and nonaccruing loans totaling $24.7 million. In addition, the Company had $7.0 million in foreclosed assets and $7,000 in repossessed personal property at September 30, 2010. The following table provides additional information about
the Banks nonperforming assets as of September 30, 2010 and December 31, 2009:



|                                                                             |  |                      |        |   |                     |   |        |  
|---------------------------------------------------------------------------- |  | -------------------- | ------ | - | ------------------- | - | ------ | -
|                                                                             |  | At September 30,2010 |        |   | At December 31,2009 |  
|                                                                             |  |                     
|Nonaccrual loans                                                             |  | $                    | 24,698 |   |                     | $ | 32,792 |  
|Loan past due 90 or more days and still accruing interest                    |  |                      |       |   |                     |   |       |  
|                                                                             |  |                      |        |   |                     |   |        |  
|Total nonperforming loans                                                    |  |                      | 24,698 |   |                     |   | 32,792 |  
|Other real estate owned                                                      |  |                      | 7,044  |   |                     |   | 1,665  |  
|Repossessed assets                                                           |  |                      | 7      |   |                     |   |       |  
|                                                                             |  |                      |        |   |                     |   |        |  
|Total nonperforming assets                                                   |  | $                    | 31,749 |   |                     | $ | 34,457 |  
|                                                                             |  |                      |        |   |                     |   |        |  
|                                                                             |  |                     
|Allowance for loan losses                                                    |  | $                    | 16,655 |   |                     | $ | 28,231 |  
|                                                                             |  |                     
|Nonperforming loans to period end loans, excluding loans held for sale       |  |                      | 4.83   | % |                     |   | 5.92   | %
|                                                                             |  |                     
|Allowance for loan losses to period end loans, excluding loans held for sale |  |                      | 3.26   | % |                     |   | 5.09   | %
|                                                                             |  |                     
|Nonperforming assets as a percentage of:                                     |  |                      |        |   |                     |   |        |  
|Loans and other real estate                                                  |  |                      | 6.13   | % |                     |   | 6.20   | %
|Total assets                                                                 |  |                      | 4.08   | % |                     |   | 4.35   | %
|                                                                             |  |                     
|Ratio of allowance for loan losses to nonperforming loans                    |  |                      | 67.43  | % |                     |   | 86.09  | %

Restructured Loans Accruing
Interest. On a case-by-case basis, management determines whether an account that experiences financial difficulties should be modified as to its interest rate or repayment terms to maximize the Companys collection of its balance. Loans
restructured at a rate equal to or greater than that of a new loan with comparable risk at the time the contract is modified are excluded from restructured loans once repayment performance, in accordance with the modified agreements, has been
demonstrated over several payment cycles. Loans that have interest rates reduced below comparable market rates remain classified as restructured loans; however, interest income is accrued at the reduced rate as long as the customer complies with the
revised terms and conditions.

The following table provides a summary of restructured loans that continue to accrue interest:



|                           |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  
|-------------------------- |  | ------------------ | --- |  | ------------------------- |  | ---- | ------ |  | - | ------------------------- |  |  |  | ---- | -
|                           |  | September 30, 2010 |     |  | December 31, 2009         | 
|                           |  | Amount             |     |  | As a Percentof TotalLoans |  |      | Amount |  |   | As a Percentof TotalLoans | 
|Restructured Loans         |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  
|Construction & Development |  | $                  |    |  |                           |  |     |        |  | $ |                          |  |  |  |     |  
|1-4 Family Residential     |  |                    | 71  |  |                           |  | 0.01 | %      |  |   | 530                       |  |  |  | 0.10 | %
|Multifamily                |  |                    |    |  |                           |  |     |        |  |   |                          |  |  |  |     |  
|Non Farm  Non Residential |  |                    | 479 |  |                           |  | 0.10 | %      |  |   | 817                       |  |  |  | 0.14 | %
|                           |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  
|Total Real Estate          |  |                    | 550 |  |                           |  | 0.11 | %      |  |   | 1,347                     |  |  |  | 0.24 | %
|                           |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  
|Commercial & Industrial    |  |                    | 24  |  |                           |  | 0.00 | %      |  |   | 42                        |  |  |  | 0.01 | %
|Consumer                   |  |                    |    |  |                           |  |     |        |  |   |                          |  |  |  |     |  
|                           |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  
|Total Restructured Loans   |  | $                  | 574 |  |                           |  | 0.11 | %      |  | $ | 1,389                     |  |  |  | 0.25 | %
|                           |  |                    |     |  |                           |  |      |        |  |   |                           |  |  |  |      |  

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



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





individually impaired, Management measures the impairment in accordance with generally accepted accounting principles. 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, 2010, substantially all of the total impaired loans were evaluated based on the fair value of the collateral. In accordance with ASC Topic 820, 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 independent appraisals. At September 30, 2010,
impaired loans totaled $91.0 million. Allocations within the Banks allowance for loan losses specifically ascribed to these individual loans totaled $11.9 million.

Loan loss experience for the nine months ended September 30, 2010 and 2009, is presented below (dollars in thousands).



|                                                                             |  |                                         |         |   |      |   |         |  
|---------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ---- | - | ------- | -
|                                                                             |  | For the Nine Months Ended September 30, |        
|                                                                             |  | 2010                                    |         |   | 2009 |  
|                                                                             |  |                                        
|Balance at beginning of the period                                           |  | $                                       | 28,231  |   |      | $ | 9,013   |  
|Provision for loan losses                                                    |  |                                         | 9,520   |   |      |   | 18,975  |  
|Charge-offs                                                                  |  |                                         |         |   |      |   |         |  
|Construction and development                                                 |  |                                         | 13,439  |   |      |   | 5,493   |  
|1-4 family residential                                                       |  |                                         | 2,831   |   |      |   | 2,542   |  
|Multifamily                                                                  |  |                                         | 184     |   |      |   |        |  
|Nonfarm, non residential                                                     |  |                                         | 695     |   |      |   | 457     |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total real estate                                                            |  |                                         | 17,149  |   |      |   | 8,492   |  
|Commercial                                                                   |  |                                         | 4,101   |   |      |   | 1,766   |  
|Consumer                                                                     |  |                                         | 411     |   |      |   | 19      |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total charge-offs                                                            |  |                                         | 21,661  |   |      |   | 10,277  |  
|Recoveries                                                                   |  |                                         |         |   |      |   |         |  
|Construction and development                                                 |  |                                         | 331     |   |      |   | 108     |  
|1-4 family residential                                                       |  |                                         | 7       |   |      |   | 121     |  
|Nonfarm, non residential                                                     |  |                                         | 4       |   |      |   |        |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total real estate                                                            |  |                                         | 342     |   |      |   | 229     |  
|Commercial                                                                   |  |                                         | 212     |   |      |   | 20      |  
|Consumer                                                                     |  |                                         | 11      |   |      |   | 4       |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Total recoveries                                                             |  |                                         | 565     |   |      |   | 253     |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Net charge-offs                                                              |  |                                         | 21,096  |   |      |   | 10,024  |  
|Balance at end of period                                                     |  | $                                       | 16,655  |   |      | $ | 17,964  |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Average loans, excluding loans held for sale                                 |  | $                                       | 531,921 |   |      | $ | 582,120 |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Period end loans, excluding loans held for sale                              |  | $                                       | 511,273 |   |      | $ | 570,289 |  
|                                                                             |  |                                         |         |   |      |   |         |  
|Net charge-offs to average loans, excluding loans held for sale (1)          |  |                                         | 5.30    | % |      |   | 2.30    | %
|                                                                             |  |                                         |         |   |      |   |         |  
|Allowance for loan losses to period end loans, excluding loans held for sale |  |                                         | 3.26    | % |      |   | 3.15    | %
|                                                                             |  |                                         |         |   |      |   |         |  



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

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



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





housing starts and fluctuations in interest rates; possible further 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 is currently making efforts to
alter the composition of its loan portfolio so that a further downturn in a particular market or industry will not have a material impact on the loan portfolio as a whole or the Companys financial condition. Given the current condition of the
real estate markets in the Companys footprint, real estate loans have been significantly curtailed. The Company continues to focus its lending effort toward providing credit to small businesses and consumers who are creditworthy.

Management has taken what it believes to be an aggressive stance on identifying problems with credits and placing them on nonaccruing status relatively
early in its evaluation process. In addition, management has evaluated these credits and their ultimate collectability using both internal and external portfolio loan reviews, and believes any potential losses which may be incurred on these credits
in the future are incorporated into its analysis of the adequacy of the Banks existing allowance for loan losses. Based on its current evaluation and upon data presently available, management believes that the Companys allowance for loan
losses is adequate.

Results of Operations

Three Months Ended September 30, 2010, Compared to the Three Months Ended September 30, 2009

Summary

The Companys net loss was $4.8 million for the third quarter of 2010,
compared with a net loss of $7.8 million for the same quarter in 2009. The net loss available to common stockholders, after the cumulative effect of preferred stock dividends, was $5.1 million for the third quarter of 2010, or $(0.99) per diluted
share, an improvement of $3.0 million, or $0.62 per diluted share, compared with a net loss available to common shareholders of $8.1 million, or $(1.61) per diluted share, in the year-ago quarter. Annualized returns on average assets and average
common equity were (2.46)% and (74.19)%, respectively, for the 2010 third quarter, compared to the 2009 third quarter of (4.44)% and (69.41)%, respectively. The Companys efficiency ratio was 95.0% in the 2010 third quarter, compared to 78.9%
in the year-ago quarter. The lower net loss in 2010 was driven principally by a lower provision for loan losses, assisted by stronger noninterest income, including higher gains on the sale of securities and SBA loans, and controlled noninterest
expense, partially offset by a declining net interest margin.

Net Interest Income

For the third quarter of 2010, interest income of $7.8 million, offset by total interest expense of $2.5 million, generated net interest income of $5.3
million, a decrease of $384,000, or 6.77%, from the same quarter of 2009. The reduction in the Companys net interest margin from 3.37% in the 2009 quarter to 2.85% in the 2010 third quarter was the principal cause of this decline in net
interest income. Although the Companys cost of funds decreased from 1.69% in 2009 to 1.51% in 2010, the decrease in the average yield on earning assets declined at a more accelerated rate from 4.81% in 2009 to 4.20% in 2010. The Companys
decision to build and maintain a significant liquidity position in an uncertain regulatory and economic environment, combined with the declines in loans outstanding drove the decrease in interest income. Late in the second quarter, the Company began
using excess interest-bearing deposits with the Federal Reserve and the proceeds from loan repayments to fund investment portfolio purchases. This decision has led to a 25 basis point improvement in the third quarter 2010 net interest margin,
compared to the 2.60% margin in the 2010 second quarter. However, the net interest margin will be negatively affected if the economic environment remains sluggish, loan originations slow further, and nonaccrual loans continue at higher levels.

The following tables illustrate the Companys yield on earning assets and cost of funds for the three-month periods ended
September 30, 2010 and 2009.



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Managements Discussion and Analysis

September 30, 2010







|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|-------------------------------------------------------------------------------- |  | ------------------------------- | ------- | - | ---------------------------- | - | ----- | --------------- |  |  | -------------- | - |  | ---------------------------- | ------- | - | --------------- | - | ----- |  |  |  | ---- | -
|                                                                                 |  | Three Months Ended September 30 |        
|                                                                                 |  | 2010                            |         |   | 2009                         |  
|                                                                                 |  | AverageBalance                  |         |   | InterestIncome/Expense(2)(3) |   |       | AverageRate (1) |  |  | AverageBalance |   |  | InterestIncome/Expense(2)(3) |         |   | AverageRate (1) |  
|Interest-earning assets:                                                         |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Loans and loans held for sale                                                    |  | $                               | 517,198 |   |                              | $ | 6,864 |                 |  |  | 5.27           | % |  | $                            | 582,199 |   |                 | $ | 7,577 |  |  |  | 5.16 | %
|Investment securities                                                            |  |                                 | 153,064 |   |                              |   | 854   |                 |  |  | 2.23           | % |  |                              | 78,655  |   |                 |   | 512   |  |  |  | 2.60 | %
|Federal funds sold                                                               |  |                                 |        |   |                              |   |      |                 |  |  |               | % |  |                              | 6,927   |   |                 |   | 5     |  |  |  | 0.29 | %
|Due from Federal Reserve Bank                                                    |  |                                 | 58,550  |   |                              |   | 34    |                 |  |  | 0.23           | % |  |                              |        |   |                 |   |      |  |  |  |     | %
|Interest-earning deposits with banks                                             |  |                                 | 6,794   |   |                              |   | 25    |                 |  |  | 1.46           | % |  |                              | 30      |   |                 |   |      |  |  |  |     | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total interest-earning assets                                                    |  |                                 | 735,606 |   |                              |   | 7,777 |                 |  |  | 4.20           | % |  |                              | 667,811 |   |                 |   | 8,094 |  |  |  | 4.81 | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Noninterest-earning assets:                                                      |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Cash and due from banks                                                          |  |                                 | 11,059  |   |                              |   |       |                 |  |  |                |   |  |                              | 9,309   |   |                 |   |       |  |  |  |      |  
|Property and equipment                                                           |  |                                 | 5,140   |   |                              |   |       |                 |  |  |                |   |  |                              | 6,548   |   |                 |   |       |  |  |  |      |  
|Interest receivable and other                                                    |  |                                 | 22,240  |   |                              |   |       |                 |  |  |                |   |  |                              | 14,150  |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total noninterest-earning assets                                                 |  |                                 | 38,439  |   |                              |   |       |                 |  |  |                |   |  |                              | 30,007  |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total assets                                                                     |  | $                               | 774,045 |   |                              |   |       |                 |  |  |                |   |  | $                            | 697,818 |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Interest-bearing liabilities:                                                    |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|NOW accounts                                                                     |  |                                 | 61,790  |   |                              |   | 53    |                 |  |  | 0.34           | % |  |                              | 58,239  |   |                 |   | 54    |  |  |  | 0.37 | %
|Money market accounts                                                            |  |                                 | 48,366  |   |                              |   | 143   |                 |  |  | 1.17           | % |  |                              | 51,575  |   |                 |   | 217   |  |  |  | 1.67 | %
|Savings deposits                                                                 |  |                                 | 107,476 |   |                              |   | 300   |                 |  |  | 1.11           | % |  |                              | 87,972  |   |                 |   | 270   |  |  |  | 1.22 | %
|Time deposits                                                                    |  |                                 | 400,954 |   |                              |   | 1,909 |                 |  |  | 1.89           | % |  |                              | 331,130 |   |                 |   | 1,855 |  |  |  | 2.22 | %
|Federal funds purchased/repurchase agreements                                    |  |                                 | 1,118   |   |                              |   | 2     |                 |  |  | 0.71           | % |  |                              | 1,757   |   |                 |   | 4     |  |  |  | 0.90 | %
|Borrowings                                                                       |  |                                 | 37,120  |   |                              |   | 86    |                 |  |  | 0.91           | % |  |                              | 39,525  |   |                 |   | 26    |  |  |  | 0.26 | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total interest-bearing liabilities                                               |  |                                 | 656,824 |   |                              |   | 2,493 |                 |  |  | 1.51           | % |  |                              | 570,198 |   |                 |   | 2,426 |  |  |  | 1.69 | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Noninterest-bearing liabilities:                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Demand deposits                                                                  |  |                                 | 68,192  |   |                              |   |       |                 |  |  |                |   |  |                              | 61,866  |   |                 |   |       |  |  |  |      |  
|Interest payable and other                                                       |  |                                 | 6,261   |   |                              |   |       |                 |  |  |                |   |  |                              | 4,141   |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total noninterest-bearing liabilities                                            |  |                                 | 74,453  |   |                              |   |       |                 |  |  |                |   |  |                              | 66,007  |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total liabilities                                                                |  |                                 | 731,277 |   |                              |   |       |                 |  |  |                |   |  |                              | 636,205 |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Stockholders equity                                                             |  |                                 | 42,768  |   |                              |   |       |                 |  |  |                |   |  |                              | 61,613  |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|Total liabilities and stockholders equity                                       |  | $                               | 774,045 |   |                              |   |       |                 |  |  |                |   |  | $                            | 697,818 |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Net interest income and interest rate spread                                     |  |                                 |         |   |                              | $ | 5,284 |                 |  |  | 2.69           | % |  |                              |         |   |                 | $ | 5,668 |  |  |  | 3.12 | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Net yield on average interest-earning assets                                     |  |                                 |         |   |                              |   |       |                 |  |  | 2.85           | % |  |                              |         |   |                 |   |       |  |  |  | 3.37 | %
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |  
|Ratio of average interest-earning assets to average interest-bearing liabilities |  |                                 | 111.99  | % |                              |   |       |                 |  |  |                |   |  |                              | 117.12  | % |                 |   |       |  |  |  |      |  
|                                                                                 |  |                                 |         |   |                              |   |       |                 |  |  |                |   |  |                              |         |   |                 |   |       |  |  |  |      |  



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

|(2) | Interest income includes amortization of deferred loan fees, net.
|--- | -----------------------------------------------------------------

|(3) | Nonaccrual loans are included in gross loans but interest is not included in interest income.
|--- | ---------------------------------------------------------------------------------------------



26



---

##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







The table below illustrates the
impact of changes in both rate and volume on the net interest income realized by the Company for the following three-month periods.

Volume
and Rate Variance Analysis

(dollars in thousands)



|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|-------------------------------------------------------------------------- |  | -------------------------- | ---- | - | -------------------------------- | - | ---- | ----- |  | - | ------- | - |  | --------- | ------ | - | ----- | - | --- | - |  | - | ------ | -
|                                                                           |  |                            |      |   | Three Months Ended September 30, |   |      |       | 
|                                                                           |  | 2010 vs. 2009              |      |   | 2009 vs. 2008                    |  
|                                                                           |  | Increase (Decrease) Due to |      |   | Increase (Decrease) Due to       |  
|                                                                           |  | Rate(1)                    |      |   | Volume(1)                        |   |      | Total |  |   | Rate(1) |   |  | Volume(1) |        |   | Total |  
|                                                                           |  |                            |      |   |                                  |  
|Interest Income:                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|Loans and loans held for sale                                              |  | $                          | 147  |   |                                  | $ | (860 | )     |  | $ | (713    | ) |  | $         | (1,261 | ) |       | $ | 49  |   |  | $ | (1,212 | )
|Investment securities                                                      |  |                            | (82  | ) |                                  |   | 424  |       |  |   | 342     |   |  |           | (372   | ) |       |   | 155 |   |  |   | (217   | )
|Federal funds sold                                                         |  |                            |     |   |                                  |   | (5   | )     |  |   | (5      | ) |  |           |       |   |       |   |    |   |  |   |       |  
|Due from Federal Reserve Bank                                              |  |                            |     |   |                                  |   | 34   |       |  |   | 34      |   |  |           |       |   |       |   |    |   |  |   |       |  
|Interest-bearing bank deposits                                             |  |                            | 25   |   |                                  |   |     |       |  |   | 25      |   |  |           |       |   |       |   |    |   |  |   |       |  
|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|Total interest income                                                      |  | $                          | 90   |   |                                  | $ | (407 | )     |  | $ | (317    | ) |  | $         | (1,633 | ) |       | $ | 204 |   |  | $ | (1,429 | )
|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|                                                                           |  |                            |      |   |                                  |  
|Interest expense:                                                          |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|NOW accounts                                                               |  | $                          | (4   | ) |                                  | $ | 3    |       |  | $ | (1      | ) |  | $         | (95    | ) |       |   |    |   |  | $ | (95    | )
|Money markets                                                              |  |                            | (61  | ) |                                  |   | (13  | )     |  |   | (74     | ) |  |           | 64     |   |       |   | (80 | ) |  |   | (16    | )
|Savings deposits                                                           |  |                            | (26  | ) |                                  |   | 56   |       |  |   | 30      |   |  |           | (337   | ) |       |   | 150 |   |  |   | (187   | )
|Time deposits                                                              |  |                            | (303 | ) |                                  |   | 357  |       |  |   | 54      |   |  |           | (1,159 | ) |       |   | 77  |   |  |   | (1,082 | )
|Federal funds purchased and securities sold under agreements to repurchase |  |                            | (1   | ) |                                  |   | (1   | )     |  |   | (2      | ) |  |           | (31    | ) |       |   | (30 | ) |  |   | (61    | )
|Other borrowings                                                           |  |                            | 61   |   |                                  |   | (1   | )     |  |   | 60      |   |  |           | (252   | ) |       |   | (97 | ) |  |   | (349   | )
|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|Total interest expense                                                     |  |                            | (334 | ) |                                  |   | 401  |       |  |   | 67      |   |  |           | (1,810 | ) |       |   | 20  |   |  |   | (1,790 | )
|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  
|Net increase (decrease) in net interest income                             |  | $                          | 424  |   |                                  | $ | (808 | )     |  | $ | (384    | ) |  | $         | 177    |   |       | $ | 184 |   |  | $ | 361    |  
|                                                                           |  |                            |      |   |                                  |   |      |       |  |   |         |   |  |           |        |   |       |   |     |   |  |   |        |  



|(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 separated is allocated to each variance proportionately.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Provisions for Loan Losses

Provisions for loan losses are charged to income to bring the allowance for loan losses to a level deemed appropriate by management. In
evaluating the allowance for loan losses, management considers factors that include growth, composition, diversification, or conversely, concentrations by industry, geography or collateral within the portfolio, historical loan loss experience,
current seasoning of the portfolio, current delinquency levels, adverse situations that may affect a borrowers ability to repay, estimated value of any underlying collateral, prevailing economic conditions and other relevant factors.

Provision for loan losses for the three months ended September 30, 2010, totaled $8.5 million, down from $14.0 million for the
comparable 2009 quarter. Although the provision for loan losses in the 2010 quarter is down significantly from the 2009 third quarter, it still remains at a historically high level, reflecting continued deterioration in real estate values, weak
economic conditions, and high unemployment and underemployment in western North Carolina.

Noninterest Income

Noninterest income for the three months ended September 30, 2010, totaled $2.0 million, compared with $1.2 million for the same quarter in 2009. The
two primary components of noninterest income are income derived from mortgage loan originations and service charges on deposit accounts, which contributed $661,000 and $572,000, respectively, to noninterest income while other service charges,
increases in the cash surrender value of bank-owned life insurance, net realized gains on the sale of investment securities, and gain on sale of SBA loans contributed $131,000, $117,000, $297,000, and $173,000, respectively. During the same period
in 2009, income derived from mortgage loan originations of $407,000 and service charges on deposits in the amount of $543,000 were the major components of noninterest income, while other service charges, increases in the cash



27



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010





surrender value of bank-owned life insurance and net gains on the sale of investment securities added $98,000, $130,000, and $47,000 respectively, to noninterest income.

Noninterest Expense

Noninterest expense
of $6.6 million for the third quarter of 2010 was $1.2 million higher than noninterest expense of $5.4 million in the 2009 third quarter. The increase in noninterest expense was driven by higher salaries and related benefit costs along with other
expenses and write-downs associated with foreclosed and other repossessed asset resolutions. Data processing costs increased $228,000 due to credits used in 2009 related to the fourth quarter 2008 core system conversion. Deposit insurance premiums
of $572,000 in the third quarter of 2010 were $327,000 higher than the $245,000 premium cost in the 2009 third quarter, reflecting increased assessments due mainly to the Banks asset quality deterioration.

Due to the pre-tax loss of $12.5 million in the 2009 period, the Company recorded an income tax benefit of $4.7 million for the 2009 quarter, equating to
an effective tax rate of 37.5%. For the third quarter of 2010, the Company recorded $3.1 million of income tax benefit based on a pre-tax loss of $7.9 million, equaling an effective tax rate of 38.4%.

Nine Months Ended September 30, 2010 Compared to the Nine Months Ended September 30, 2009

Summary

Results for the first nine
months of 2010 include a net loss available to common shareholders of $4.9 million, or $(0.96) per diluted share, a $4.8 million decrease, or $0.97 per diluted share, from the comparable measures in the third quarter of 2009 of $9.7 million, or
$(1.93) per diluted share, respectively. Annualized returns on average assets and average common equity were (0.69)% and (23.24)%, respectively, for the first nine months of 2010, compared to the same period in 2009 of (1.69)% and (27.40)%,
respectively. The Companys efficiency ratio was 89.9% in the 2010 nine-month period, versus 96.7% in the 2009 nine-month period. Similar to the third-quarter comparison, overall, the lower net loss for the first nine months of 2010 financial
performance resulted from a substantially lower provision for loan losses, partially offset by a falling net interest margin and aided by higher noninterest income. In addition, the previously-cited variances in securities gains and losses and other
foreclosed real estate expense impacted the comparison of results between periods. Noninterest expense in 2010 was also adversely affected by increased FDIC deposit insurance assessments and costs of data processing when compared with the prior-year
period.

Net Interest Income

Net interest income, the primary component of the Companys earnings, decreased from $17.1 million for the first nine months of 2009 to $15.3 million
for the first nine months of 2010, a decrease of $1.8 million, or 10.5%. Interest income decreased $2.2 million from $25.5 million for the first nine months of 2009 to $23.3 million for the comparable period in 2010. Interest expense decreased
$461,000 from $8.4 million for the first nine months of 2009 to $7.9 million for the first nine months of 2010. The decrease in net interest income year over year is attributable to the decline in the Companys net interest margin, resulting
from a reduction in loans outstanding and an increase in nonaccrual loans. The net interest margin decreased from 3.39% for the nine months ended September 30, 2009 to 2.69% for the nine months ended September 30, 2010.

Average interest-earning assets for the 2010 period were $763.7 million, an increase of $89.0 million, or 13.2%, compared to the 2009 period, while the
average yield decreased by 98 basis points from 5.05% to 4.07%. The increase in earning assets, resulting from deposit account inflows, consisted of increased investment securities and interest-bearing balances on deposit with the Federal Reserve
Bank. The decrease in yield was driven by reduced yields on loans, including the impact on nonaccrual loans, and higher levels on investment securities and cash equivalents, which traditionally bear lower interest rates. Average interest-bearing
liabilities were $679.1 million, an increase of $99.5 million, or 17.2%, as a result of increases in deposits and borrowings. The average cost of interest-bearing liabilities decreased by 37 basis points, from 1.93% to 1.56%, principally due to
lower borrowing costs, combined with the downward repricing of the Companys certificates of deposit.



28



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##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







The following table illustrates
the Companys yield on earning assets and cost of funds for the nine-month periods ended September 30, 2010 and 2009.



|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|-------------------------------------------------------------------------------- |  | ------------------------------ | ------- | - | ---------------------------- | - | ------ | --------------- |  |  | -------------- | - |  | ---------------------------- | ------- | - | --------------- | - | ------ |  |  |  | ---- | -
|                                                                                 |  | Nine Months Ended September 30 |        
|                                                                                 |  | 2010                           |         |   | 2009                         |  
|                                                                                 |  | AverageBalance                 |         |   | InterestIncome/Expense(2)(3) |   |        | AverageRate (1) |  |  | AverageBalance |   |  | InterestIncome/Expense(2)(3) |         |   | AverageRate (1) |  
|Interest-earning assets:                                                         |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Loans and loans held for sale                                                    |  | $                              | 534,891 |   |                              | $ | 21,052 |                 |  |  | 5.26           | % |  | $                            | 584,990 |   |                 | $ | 23,448 |  |  |  | 5.36 | %
|Investment securities                                                            |  |                                | 125,605 |   |                              |   | 2,012  |                 |  |  | 2.14           | % |  |                              | 84,186  |   |                 |   | 2,057  |  |  |  | 3.26 | %
|Federal funds sold                                                               |  |                                |        |   |                              |   |       |                 |  |  |               | % |  |                              | 5,473   |   |                 |   | 9      |  |  |  | 0.22 | %
|Interest on Federal Reserve balances                                             |  |                                | 100,242 |   |                              |   | 175    |                 |  |  | 0.23           | % |  |                              |        |   |                 |   |       |  |  |  |     | %
|Interest-earning cash deposits                                                   |  |                                | 2,941   |   |                              |   | 29     |                 |  |  | 1.32           | % |  |                              | 29      |   |                 |   |       |  |  |  |     | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total interest-earning assets                                                    |  |                                | 763,679 |   |                              |   | 23,268 |                 |  |  | 4.07           | % |  |                              | 674,678 |   |                 |   | 25,514 |  |  |  | 5.05 | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Noninterest-earning assets:                                                      |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Cash and due from banks                                                          |  |                                | 10,319  |   |                              |   |        |                 |  |  |                |   |  |                              | 9,651   |   |                 |   |        |  |  |  |      |  
|Property and equipment                                                           |  |                                | 5,396   |   |                              |   |        |                 |  |  |                |   |  |                              | 6,789   |   |                 |   |        |  |  |  |      |  
|Interest receivable and other                                                    |  |                                | 13,824  |   |                              |   |        |                 |  |  |                |   |  |                              | 14,075  |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total noninterest-earning assets                                                 |  |                                | 29,539  |   |                              |   |        |                 |  |  |                |   |  |                              | 30,515  |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total assets                                                                     |  | $                              | 793,218 |   |                              |   |        |                 |  |  |                |   |  | $                            | 705,193 |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Interest-bearing liabilities:                                                    |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|NOW accounts                                                                     |  |                                | 61,272  |   |                              |   | 154    |                 |  |  | 0.34           | % |  |                              | 57,651  |   |                 |   | 161    |  |  |  | 0.37 | %
|Money markets                                                                    |  |                                | 46,009  |   |                              |   | 438    |                 |  |  | 1.27           | % |  |                              | 44,560  |   |                 |   | 563    |  |  |  | 1.69 | %
|Savings deposits                                                                 |  |                                | 98,125  |   |                              |   | 815    |                 |  |  | 1.11           | % |  |                              | 83,327  |   |                 |   | 866    |  |  |  | 1.39 | %
|Time deposits                                                                    |  |                                | 419,267 |   |                              |   | 6,158  |                 |  |  | 1.96           | % |  |                              | 341,951 |   |                 |   | 6,681  |  |  |  | 2.61 | %
|Federal funds purchased/repurchase agreements                                    |  |                                | 1,043   |   |                              |   | 5      |                 |  |  | 0.64           | % |  |                              | 1,889   |   |                 |   | 11     |  |  |  | 0.78 | %
|Borrowings                                                                       |  |                                | 52,693  |   |                              |   | 358    |                 |  |  | 0.90           | % |  |                              | 50,224  |   |                 |   | 107    |  |  |  | 0.28 | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total interest-bearing liabilities                                               |  |                                | 678,409 |   |                              |   | 7,928  |                 |  |  | 1.56           | % |  |                              | 579,602 |   |                 |   | 8,389  |  |  |  | 1.93 | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Noninterest-bearing liabilities:                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Demand deposits                                                                  |  |                                | 64,933  |   |                              |   |        |                 |  |  |                |   |  |                              | 58,750  |   |                 |   |        |  |  |  |      |  
|Interest payable and other                                                       |  |                                | 6,266   |   |                              |   |        |                 |  |  |                |   |  |                              | 4,265   |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total noninterest-bearing liabilities                                            |  |                                | 71,199  |   |                              |   |        |                 |  |  |                |   |  |                              | 63,015  |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total liabilities                                                                |  |                                | 749,608 |   |                              |   |        |                 |  |  |                |   |  |                              | 642,617 |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Stockholders equity                                                             |  |                                | 43,610  |   |                              |   |        |                 |  |  |                |   |  |                              | 62,576  |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|Total liabilities and stockholders equity                                       |  | $                              | 793,218 |   |                              |   |        |                 |  |  | 2.51           | % |  | $                            | 705,193 |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Net interest income and interest rate spread                                     |  |                                |         |   |                              | $ | 15,340 |                 |  |  | 2.46           | % |  |                              |         |   |                 | $ | 17,125 |  |  |  | 3.12 | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Net yield on average interest-earning assets                                     |  |                                | 112.57  |   |                              |   |        |                 |  |  | 2.69           | % |  |                              |         |   |                 |   |        |  |  |  | 3.39 | %
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |  
|Ratio of average interest-earning assets to average interest-bearing liabilities |  |                                | 112.45  | % |                              |   |        |                 |  |  |                |   |  |                              | 116.40  | % |                 |   |        |  |  |  |      |  
|                                                                                 |  |                                |         |   |                              |   |        |                 |  |  |                |   |  |                              |         |   |                 |   |        |  |  |  |      |  



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

|(2) | Interest income includes amortization of deferred loan fees, net.
|--- | -----------------------------------------------------------------

|(3) | Nonaccrual loans are included in gross loans but interest is not included in interest income.
|--- | ---------------------------------------------------------------------------------------------



29



---

##### Table of Contents

1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







The table below illustrates the
impact of changes in both rate and volume on the net interest income realized by the Company for the following nine-month periods.

Volume
and Rate Variance Analysis

(dollars in thousands)



|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|-------------------------------------------------------------------------- |  | -------------------------- | ------ | - | ------------------------------- | - | ------ | ----- |  | - | ------- | - |  | --------- | ------ | - | ----- | - | ---- | - |  | - | ------ | -
|                                                                           |  |                            |        |   | Nine Months Ended September 30, |   |        |       | 
|                                                                           |  | 2010 vs. 2009              |        |   | 2009 vs. 2008                   |  
|                                                                           |  | Increase (Decrease) Due to |        |   | Increase (Decrease) Due to      |  
|                                                                           |  | Rate(1)                    |        |   | Volume(1)                       |   |        | Total |  |   | Rate(1) |   |  | Volume(1) |        |   | Total |  
|                                                                           |  |                            |        |   |                                 |  
|Interest Income:                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|Loans and loans held for sale                                              |  | $                          | (418   | ) |                                 | $ | (1,978 | )     |  | $ | (2,396  | ) |  | $         | (4,646 | ) |       | $ | 852  |   |  | $ | (3,794 | )
|Investment securities                                                      |  |                            | (852   | ) |                                 |   | 807    |       |  |   | (45     | ) |  |           | (21    | ) |       |   | 30   |   |  |   | 9      |  
|Federal funds sold                                                         |  |                            |       |   |                                 |   | (9     | )     |  |   | (9      | ) |  |           |       |   |       |   | (2   | ) |  |   | (2     | )
|Due from Federal Reserve Bank                                              |  |                            |       |   |                                 |   | 175    |       |  |   | 175     |   |  |           |       |   |       |   |     |   |  |   |       |  
|Interest-bearing bank deposits                                             |  |                            | 29     |   |                                 |   |       |       |  |   | 29      |   |  |           | (1     | ) |       |   |     |   |  |   | (1     | )
|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|Total interest income                                                      |  | $                          | (1,241 | ) |                                 | $ | (1,005 | )     |  | $ | (2,246  | ) |  | $         | (4,668 | ) |       | $ | 880  |   |  | $ | (3,788 | )
|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|                                                                           |  |                            |        |   |                                 |  
|Interest expense:                                                          |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|NOW accounts                                                               |  | $                          | (17    | ) |                                 | $ | 10     |       |  | $ | (7      | ) |  | $         | (303   | ) |       |   |     |   |  | $ | (303   | )
|Money markets                                                              |  |                            | (143   | ) |                                 |   | 18     |       |  |   | (125    | ) |  |           | 201    |   |       |   | (268 | ) |  |   | (67    | )
|Savings deposits                                                           |  |                            | (190   | ) |                                 |   | 139    |       |  |   | (51     | ) |  |           | (1,107 | ) |       |   | 692  |   |  |   | (415   | )
|Time deposits                                                              |  |                            | (1,855 | ) |                                 |   | 1,332  |       |  |   | (523    | ) |  |           | (3,992 | ) |       |   | 230  |   |  |   | (3,762 | )
|Federal funds purchased and securities sold under agreements to repurchase |  |                            | (2     | ) |                                 |   | (4     | )     |  |   | (6      | ) |  |           | (90    | ) |       |   | (136 | ) |  |   | (226   | )
|Other borrowings                                                           |  |                            | 244    |   |                                 |   | 7      |       |  |   | 251     |   |  |           | (939   | ) |       |   | 85   |   |  |   | (854   | )
|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|Total interest expense                                                     |  |                            | (1,963 | ) |                                 |   | 1,502  |       |  |   | (461    | ) |  |           | (6,230 | ) |       |   | 603  |   |  |   | (5,627 | )
|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  
|Net increase (decrease) in net interest income                             |  | $                          | 722    |   |                                 | $ | (2,507 | )     |  | $ | (1,785  | ) |  | $         | 1,562  |   |       | $ | 277  |   |  | $ | 1,839  |  
|                                                                           |  |                            |        |   |                                 |   |        |       |  |   |         |   |  |           |        |   |       |   |      |   |  |   |        |  



|(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 separated is allocated to each variance proportionately.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Provisions for Loan Losses

Provision for loan losses for the first nine months of 2010 totaled $9.5 million, compared to $19.0 million for the first nine months of
2009. Although the provision for loan losses in 2010 is down substantially from 2009, it still remains at a historically high level, reflecting continued real estate devaluation, weak economic conditions and high unemployment and unemployment and
underemployment in western North Carolina.

Noninterest Income

Noninterest income for the nine months ended September 30, 2010, totaled $5.0 million, compared with $3.8 million for the same period in 2009. The two primary components of noninterest income are
income derived from mortgage loan originations and service charges on deposit accounts, which contributed $1.5 million and $1.7 million, respectively, to noninterest income while other service charges, increases in the cash surrender value of
bank-owned life insurance, net realized gains on the sale of investment securities, and gain on sale of SBA loans contributed $361,000, $347,000, $797,000, and $302,000, respectively. During the same period in 2009, income derived from mortgage loan
originations of $1.3 million and service charges on deposits in the amount of $1.6 million were the major components of noninterest income, while other service charges, increases in the cash surrender value of bank-owned life insurance and net gains
on the sale of investment securities added $272,000, $407,000 and $598,000, respectively, to noninterest income. There were no sales of Small Business Administration loans during the 2009 period. Adversely affecting the first nine months of 2009 was
a $424,000 loss incurred on the write-off of the Companys investment in Silverton Bank, its primary correspondent bank at the time.



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







Noninterest Expense

Noninterest expense for the nine months ended September 30, 2010 was $17.7 million compared to $16.3 million for the nine months
ended September 30, 2009. Compensation expense, accounting for nearly half of noninterest expense, totaled $8.1 million for the third quarter of 2010, compared to $7.2 million for the same period in 2009. This increase is attributable primarily
to increased resources dedicated to problem-asset resolution.

Deposit insurance premiums totaled $1.7 million for the 2010 nine-month period,
an increase of $599,000, or 56.9%, over the premiums incurred for the same period one year ago. Data processing and telecommunication expense increased to $1.7 million for the first nine months of 2010, up $632,000 from $1.1 million for the same
period in 2009 as the 2009 expense included credits from the Companys fourth quarter 2008 core systems conversion. Also contributing to the variance in noninterest expense between nine-month periods were write-downs and losses on sales of
other real estate owned, which totaled $1.0 million for the first nine months of 2010, down $354,000 from $1.3 million in the comparable 2009 period.

Interest Sensitivity and Liquidity

One of the principal duties of the Banks
Asset/Liability Management Committee is management of interest rate risk. The Bank regularly uses computer simulation modeling to assess the Bank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 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 100-200 basis points up or down band to be optimal. As a result of the current
compressed net interest margin environment, the Banks asset sensitivity increased, which in turn adversely impacted our net interest margin. Management believes this situation will moderate as the Banks certificate of deposit portfolio
continues to reprice downward. However, some residual impact of the recent significant decrease in interest rates is expected to linger for at least the remainder of 2010.

In addition to management of interest rate risk, another function of the Committee is evaluating the current liquidity of the Bank 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. The Banks on balance sheet liquidity ratio was 24.1% at
September 30, 2010. Management considers this ratio to be more than adequate to meet known or anticipated liquidity needs. The Company, however, has limited sources of revenue, and the Consent Order does not permit the payment of dividends
between the Bank and the Company. Therefore, without this primary source of revenue from the Bank, the Company expects to continue to defer the payment of dividends on its preferred stock.



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

Not Applicable



|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.



31



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1stFinancial Services Corporation

Managements Discussion and Analysis

September 30, 2010







No change in our internal control
over financial reporting was identified that occurred during the Companys third fiscal quarter of 2010 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
|-------- | ------------

Not
Applicable



|Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds
|------- | -----------------------------------------------------------

None



|Item 3. | Defaults Upon Senior Securities
|------- | -------------------------------

None



|Item 4. | (Removed and Reserved)
|------- | ----------------------



|Item 5. | Other Information
|------- | -----------------

Not
Applicable



|Item 6. | Exhibits
|------- | --------



|      |  |                                                               
|----- |  | --------------------------------------------------------------
|31.01 |  | Rule 13a-14(a)/15(d)-14(a) Certification by Michael G. Mayer  
|      | 
|31.02 |  | Rule 13a-14(a)/15(d)-14(a) Certification by Holly L. Schreiber
|      | 
|32.01 |  | Rule 1350 Certifications                                      



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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 (Registrant)
|                           |  |  | 
|Date:    November 15, 2010 |  |  |  | By:                                            |  | /s/ Michael G. Mayer   
|                           |  |  |  |                                                |  | Michael G. Mayer       
|                           |  |  |  |                                                |  | Chief Executive Officer
|                           |  |  | 
|Date:    November 15, 2010 |  |  |  | By:                                            |  | /s/ Holly L. Schreiber 
|                           |  |  |  |                                                |  | Holly L. Schreiber     
|                           |  |  |  |                                                |  | Chief Financial Officer



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EXHIBIT INDEX



|              |  |                                                               
|------------- |  | --------------------------------------------------------------
|ExhibitNumber |  | Description                                                   
|              | 
|31.01         |  | Rule 13a-14(a)/15(d)-14(a) Certification by Michael G. Mayer  
|              | 
|31.02         |  | Rule 13a-14(a)/15(d)-14(a) Certification by Holly L. Schreiber
|              | 
|32.01         |  | Rule 1350 Certifications