Exhibit 13.0

ANNAPOLIS BANCORP, INC.

Corporate Profile

Annapolis Bancorp, Inc. (the Company), formerly Annapolis National Bancorp, Inc. and Maryland Publick Banks, Inc., is a bank holding company, incorporated in May 1988 for the purpose of acquiring and holding all of the
outstanding stock of BankAnnapolis (the Bank) (formerly Annapolis National Bank), a federally insured community-oriented bank and one of two independent commercial banks headquartered in Annapolis, Maryland. The Bank currently operates
as a full service commercial bank from its headquarters in Annapolis, its five other branches located in Anne Arundel County, Maryland and one branch located on Kent Island in Queen Annes County, Maryland. The Banks principal business
consists of originating loans and attracting deposits. The Bank originates commercial loans, commercial real estate loans, construction loans, one- to four-family real estate loans, home equity loans and consumer loans. The Bank also invests in U.S.
Treasury and U.S. Government agency securities and other securities including mortgage backed securities issued by or guaranteed by the federal government.

The Bank conducts a general commercial and retail banking business in its market area, emphasizing the banking needs of small businesses, professional concerns and individuals. The Bank attracts most of its customer deposits from Anne
Arundel County, Maryland, and to a lesser extent, Queen Annes County, Maryland. The Banks lending operations are centered in Anne Arundel County, but extend throughout Central Maryland.

The Bank competes with numerous other financial intermediaries, commercial banks, savings and loan associations, credit unions, mortgage banking firms, consumer finance
companies, securities brokerage firms, insurance companies, money market mutual funds and other financial institutions operating in Anne Arundel County and elsewhere. The Bank continually evaluates new products, and implements such new products as
deemed appropriate by management.

The Banks Anne Arundel County service area is a highly concentrated, highly branched banking market. Competition
in Anne Arundel County for loans to small businesses and professionals, the Banks target market, is intense and pricing, service and access to decision-makers are important. Deposit competition among institutions in Anne Arundel County also is
strong.

The Bank employed 80 full time and 10 part time individuals at December 31, 2007.

MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS
OF OPERATIONS

Overview

The following is
managements discussion and analysis of the financial condition and results of operations of Annapolis Bancorp, Inc. on a consolidated basis with its wholly owned subsidiary, BankAnnapolis, for the periods presented, and should be read in
conjunction with the consolidated financial statements and the related notes thereto appearing elsewhere in this annual report.

The Company reported net
income for 2007 of $2.4 million, a decrease of $527 thousand or 17.9% from 2006 net income of $3.0 million. The decrease in 2007 earnings was primarily due to higher interest and noninterest expense, and an increase in the provision for credit
losses. Earnings per diluted share were $0.58 compared to $0.70 per share in 2006.

The primary source of income of the Bank is interest on its loan and
investment portfolios, while one of the principal expenses of the Bank is interest on its deposit accounts and borrowings. The difference between interest income on interest earning assets and interest expense on interest bearing liabilities is
referred to as net interest income. Net interest income was $11.8 million for 2007, an increase of $38 thousand or 0.3% compared to $11.8 million in 2006. Total assets were $361.9 million as of December 31, 2007, a $10.0 million or a 2.8%
increase over December 31, 2006 total assets of $351.9 million. The Companys return on average assets was 0.69% and 0.93% for the years ending December 31, 2007, and 2006, respectively. The Companys return on average equity was
9.51% and 13.21% for the years ending December 31, 2007, and 2006, respectively.

At December 31, 2007 the Banks gross loan portfolio
totaled $246.3 million. Of this amount, $46.0 million or 18.7% were commercial loans, $71.5 million or 29.0% were commercial real estate loans, $24.5 million or 10.0% were construction loans, $64.8 million or 26.3% were one- to four-family
residential mortgage loans, $21.4 million or 8.7% were home equity loans, and $18.1 million or 7.3% were consumer and other loans.



1



---

Application of Critical Accounting Policies

The Companys consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and follow general practices within the industries in which
it operates. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based
on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements may reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance
on the use of estimates, assumptions, and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions, and judgments are necessary when assets and
liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment write-down or valuation reserve to be established, or when an asset or
liability must be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain
assets and liabilities are either based on quoted market prices or are provided by other third-party sources, when available.

The most significant
accounting policies followed by the Company are presented in Note 1 to the consolidated financial statements which can be found on page 25 and continuing to page 29. These policies, along with the disclosures presented in the other financial
statement notes and in this financial review, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of
financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified the determination of the allowance for credit losses to be the accounting area that requires the most subjective or complex
judgments, and as such could be most subject to revision as new information becomes available.

The allowance for credit losses represents
managements estimate of probable credit losses inherent in the loan portfolio as of the balance sheet date. Determining the amount of the allowance for credit losses is considered a critical accounting estimate because it requires significant
judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and
conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the consolidated balance sheet. Note 1 to the consolidated financial statements found on page 26 describes the
methodology used to determine the allowance for credit losses and a discussion of the factors driving changes in the amount of the allowance for credit losses is included in the Credit Risk Management section of this financial analysis.

Financial Condition as of December 31, 2007 and 2006 and Results of Operations for the Years then Ended

The Company, through its Bank subsidiary, functions as a financial intermediary, and as such its financial condition and results of operations can be examined in terms
of developing trends in its sources and uses of funds. These trends are the result of both external environmental factors, such as changing economic conditions, regulatory changes and competition, and also internal environmental factors such as
managements evaluation as to the best use of funds in these changing conditions.

Total assets increased by $10.0 million or 2.8% during 2007 to
$361.8 million from $351.9 million at December 31, 2006. Total deposits and securities sold under agreements to repurchase, the Companys primary sources of funds, increased $13.0 million or 4.5% to $304.9 million from $291.9 million at
December 31, 2006. Time deposits totaled $95.1 million or 32.6% of the Banks total deposits at December 31, 2007, compared to $102.5 million or 37.4% in 2006. Savings and money market accounts, the largest portion of the Banks
total deposits, totaled $130.1 million or 44.6% of the Banks total deposits at December 31, 2007, compared to $85.7 million or 31.2% in 2006. The increase in savings and money market deposits was due to the introduction of a premium rate
savings account in April 2007. NOW accounts totaled $28.3 million or 9.7% and $43.8 million or 16.0% of total deposits at December 31, 2007 and 2006, respectively. The decrease in NOW accounts is the result of a large withdrawal upon
distribution of an estate account. Demand, noninterest bearing accounts totaled $38.1 million or 13.1% of total deposits at December 31, 2007 and $42.2 million or 15.4% at December 31, 2006. Securities sold under agreements to repurchase
decreased $4.4 million or 24.8% to $13.3 million at December 31, 2007 compared to $17.7 million at December 31, 2006. Overnight borrowings at December 31, 2007 totaled $4.2 million compared to zero at December 31, 2006 while
long-term borrowings were $20.0 million at December 31, 2007 compared to $30.0 million at December 31, 2006.

On March 26, 2003, Annapolis
Bancorp Statutory Trust I (Statutory Trust I), a Connecticut business trust formed, funded and wholly owned by the Company, issued $5,000,000 of variable-rate capital securities to institutional investors. The proceeds of the securities
were used to provide funding for future growth and to improve the Companys capital ratios. The current cost of these securities is 8.01%.



2



---

The Companys primary uses of funds are for loans and investments. Loans, excluding deferred fees/costs and
discounts and the allowance for credit losses, increased by $24.6 million or 11.1% to $246.3 million at December 31, 2007 from $221.7 million a year earlier. Real estate loan balances increased by $17.0 million or 12.1% and commercial loans
increased by $5.4 million or 13.3%, construction loans by $1.3 million or 5.6%, and; installment and other consumer loans of $810 thousand or 4.0%.

Operating Results

The following discussion outlines some of the more important factors and trends affecting the earnings of the Company as
presented in its consolidated statements of income.

Net Interest Income

Net interest income is the difference between interest income and interest expense and is generally affected by increases or decreases in the amount of outstanding interest earning assets and interest bearing
liabilities (volume variance). This volume variance coupled with changes in interest rates on these same assets and liabilities (rate variance) equates to the total change in net interest income in any given period. The table on page 8 sets forth
certain information regarding changes in interest income and interest expense attributable to (1) changes in volume (change in volume multiplied by the old rate); (2) changes in rates (change in rate multiplied by the old volume); and
(3) changes in rate/volume (change in rate multiplied by change in volume).

Net interest income for the year ended December 31, 2007, was $11.8
million, representing an increase of $38 thousand or 0.3% from net interest income of $11.8 million for the year ended December 31, 2006. The increase in net interest income is due primarily to increased average loan and investment balances.
The net interest margin was 3.59% for the year ended December 31, 2007 and 3.96% for the year ended December 31, 2006. Net interest income for 2007 includes $147 thousand of interest collected on a cash basis related to loans on nonaccrual
status, compared to $58 thousand of interest collected on nonaccrual loans in 2006.

Interest Income

The Companys interest income increased $2.6 million or 13.2% for the year ended December 31, 2007. The increase in interest income can be attributed to an
increase in earning assets and asset yields as average loans increased $19.2 million or 9.0%, and loan yield improved to 7.63% for the year ended December 31, 2007 from 7.49% for the year ended December 31, 2006. Contributing to the
increase in interest income is an increase in the investment volume and an improvement in the overall portfolio yield. Average investment securities, federal funds sold and interest bearing balances with banks increased in total by $12.6 million or
14.9%, while the yield on federal funds sold, other investments and investment securities increased to 4.81% for the year ended December 31, 2007 from 4.52% for the year ended December 31, 2006.

Interest Expense

The Companys interest expense increased $2.6
million or 32.1% to $10.6 million for 2007, compared to $8.0 million for 2006. The increase in interest expense for the year ended December 31, 2007 can be attributed to higher deposit costs, primarily from the Banks new Superior Savings
Product and the Banks indexed money market account. Offsetting these increases was a decrease in the cost of Federal Home Loan Bank borrowings, decreasing $235 thousand with the overall cost falling to 3.84% from 4.19% for the year ended
December 31, 2006.

Provision for Credit Losses

The Company recorded a provision for credit losses of $448 thousand for the year ended December 31, 2007 compared to $12 thousand for the year ended December 31, 2006. The increase in provision was primarily the result of an
increase in gross loans of $24.6 million and the need to replenish the reserve for net charge-offs of $141 thousand. Non performing loans at year end equaled $1.1 million for the years ending December 31, 2007 and 2006. Net charge-offs of loans
deemed uncollectible totaled $141 thousand for the year ended December 31, 2007 compared to net charge-offs of $48 thousand for the year ended December 31, 2006. See the discussion under the heading Provision for Credit Losses and
Credit Risk Management for greater analysis regarding the Allowance for Credit Losses and related provision.

Noninterest Income

The Companys primary sources of noninterest income are fees charged on deposit products, fees generated by the Banks VISA check card program, fees
recognized on the origination of brokered residential mortgage loans and rental income from leasing space at the Banks headquarters building. Included in noninterest income for the year ended December 31, 2006 is a gain received of $23
thousand on the prepayment of a Federal Home Loan Bank convertible advance of $5.0 million with no similar gain recorded in 2007. Noninterest income decreased $19 thousand or 1.0% remaining at $1.8 million for the years ended December 31, 2007.
Fees charged on deposit products increased $81 thousand or 6.9%, while mortgage banking fees totaled $54 thousand for the year ended December 31, 2007, a 67.5% decrease from fees of $166 thousand for the year ended December 31, 2006. The
Company does not fund mortgage loans sold in the secondary market, but receives commissions from investors who fund the loans. Rental income on the headquarters building totaled $186 thousand for year ended December 31, 2007 compared to $180
thousand for the year ended December 31, 2006.



3



---

Noninterest Expense

Noninterest expense increased $531 thousand or 5.9% to $9.5 million at December 31, 2007, compared to $9.0 million at December 31, 2006. The increase in noninterest expense was primarily due to increases in personnel expense
related to the expansion of the Banks Business Development Department and higher occupancy costs associated with a full year of expense for the new Kent Island and Market House branches.

Personnel expense increased $384 thousand or 7.5% to $5.5 million from $5.1 million, with $280 thousand related to additional business development and branch staff,
annual salary increases, $87 thousand related to higher payroll tax and benefit costs and a reduction in the cost of expensing options of $73 thousand.

Occupancy and equipment expense increased $73 thousand or 6.3% due to annual rent increases and costs associated with the new branches located on Kent Island and in downtown Annapolis.

Marketing expense decreased $66 thousand or 14.7% as the Company reduced the number of cable advertisements. Data processing expense decreased $20 thousand or 2.5% due
to favorable contract terms.

Provision for Income Taxes

The Company and the Bank file consolidated federal income tax returns and separate Maryland income tax returns. The Company recognized $1.3 million and $1.7 million in income tax expense for the years ended December 31, 2007 and 2006,
respectively, for an effective tax rate of 35.2% in 2007 and 37.1% in 2006.

Results of Operations for the Years Ended December 31,
2006 and 2005

Net Income

Net income for the year
ended December 31, 2006 totaled $3.0 million, a decrease of $30 thousand or 1.0% increase from 2005 earnings of $3.0 million. Earnings per diluted share were $0.70 for the year ended December 31, 2006 compared to $0.71 per diluted share
for the year ended December 31, 2005.

Operating Results

The following discussion outlines some of the more important factors and trends affecting the earnings of the Company as presented in its consolidated statements of income.

Net Interest Income

Net interest income for the year ended December 31, 2006, was $11.8 million, representing
an increase of $341 thousand or 3.0% from net interest income of $11.5 million for the year ended December 31, 2005. The increase in net interest income is due primarily to increased average loan and investment balances.

Interest Income

Interest income increased $2.7 million or 16.0% in
2006 compared to 2005, primarily due to an earning assets and asset yields as average loans increased $5.4 million or 2.6% in 2006 and an increase in loan yields, with the yield increasing to 7.49% for the year ended December 31, 2006 from
6.76% for the year ended December 31, 2005. Average investment securities increased $10.3 million or 16.8%, while the yield on federal funds sold, other investments and investment securities increased to 4.52% for the year ended
December 31, 2006 from 3.85% for the year ended December 31, 2005.

Interest Expense

Interest expense increased $2.4 million or 42.6% to $8.0 million in 2006 compared to $5.6 million in 2005. The increase in interest expense for the year ended
December 31, 2006 can be attributed to higher deposit costs and an increase in the cost of Federal Home Loan Bank borrowings rising to 4.19% from 3.40% for the year ended December 31, 2005.



4



---

Provision for Credit Losses

The Company recorded a provision for credit losses of $12 thousand for the year ended December 31, 2006 compared to $442 thousand for the year ended December 31, 2005. See the discussion under the heading Provision for
Credit Losses and Credit Risk Management for greater analysis and the methodology used regarding the Allowance for Credit Losses and related provision.

Noninterest Income

Noninterest income decreased $360 thousand or 16.3% during 2006 to $1.8 million from $2.2 million compared to 2005.
Included in noninterest income for the year ended December 31, 2005 is a gain received of $23 thousand on the prepayment of a Federal Home Loan Bank convertible advance of $5.0 million compared to $201 thousand in similar gains on $10.0 million
in Federal Home Loan convertible advances in 2005. Mortgage broker fees decreased $163 thousand for the year ended December 31, 2006. Fees charged on deposit products decreased $31 thousand or 2.6%.

Noninterest Expense

Noninterest expense increased $337 thousand or
3.9% to $8.9 million in 2006 from $8.6 million in 2005. The increase in noninterest expense was primarily due to increases in personnel expense and higher occupancy costs associated with the new Kent Island and Market House branches.

Provision for Income Taxes

The Company and the Bank file
consolidated federal income tax returns and separate Maryland income tax returns. The Company recognized $1.7 million and $1.6 million in income tax expense for the years ended December 31, 2006 and 2005, respectively, for an effective tax rate
of 37.1% in 2006 and 35.4% in 2005.

Selected Consolidated Financial Highlights

Selected Consolidated Financial Data at and for years ended December 31,

(Dollars in thousands, except per
share data)



|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        
|----------------------------------------------------- |  | ---- | ------- | ---- | - | ------- |  | ---- | ------- | ---- | - | ------- |  | - | -------
|Selected Financial Data                               |  | 2007 |         | 2006 |   | 2005    |  | 2004 |         | 2003
|Total assets                                          |  | $    | 361,879 |      | $ | 351,861 |  | $    | 304,916 |      | $ | 284,188 |  | $ | 231,338
|Total loans, net                                      |  |      | 243,905 |      |   | 219,794 |  |      | 202,568 |      |   | 202,296 |  |   | 167,123
|Total deposits                                        |  |      | 291,589 |      |   | 274,175 |  |      | 249,949 |      |   | 226,834 |  |   | 190,577
|Securities sold under agreement to repurchase         |  |      | 13,337  |      |   | 17,734  |  |      | 12,986  |      |   | 7,901   |  |   | 8,745  
|Short-term debt                                       |  |      | 4,170   |      |   |        |  |      |        |      |   |        |  |   |       
|Long-term debt                                        |  |      | 25,000  |      |   | 35,000  |  |      | 20,000  |      |   | 30,000  |  |   | 15,000 
|Stockholders equity                                  |  |      | 26,852  |      |   | 24,121  |  |      | 20,959  |      |   | 18,662  |  |   | 16,448 
|                                                      |  |      |         |      |  
|Selected Operating Data                               |  |      |         |      |   |         |  |      |         |     
|Interest income                                       |  | $    | 22,466  |      | $ | 19,846  |  | $    | 17,104  |      | $ | 13,260  |  | $ | 11,477 
|Interest expense                                      |  |      | 10,616  |      |   | 8,034   |  |      | 5,633   |      |   | 3,641   |  |   | 3,368  
|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        
|Net interest income                                   |  |      | 11,850  |      |   | 11,812  |  |      | 11,471  |      |   | 9,619   |  |   | 8,109  
|Provision for credit losses                           |  |      | 448     |      |   | 12      |  |      | 442     |      |   | 294     |  |   | 50     
|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        
|Net interest income after provision for credit losses |  |      | 11,402  |      |   | 11,800  |  |      | 11,029  |      |   | 9,325   |  |   | 8,059  
|Noninterest income                                    |  |      | 1,831   |      |   | 1,850   |  |      | 2,210   |      |   | 2,025   |  |   | 2,084  
|Noninterest expense                                   |  |      | 9,490   |      |   | 8,959   |  |      | 8,622   |      |   | 7,946   |  |   | 7,533  
|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        
|Income before income taxes                            |  |      | 3,743   |      |   | 4,691   |  |      | 4,617   |      |   | 3,404   |  |   | 2,610  
|Income tax expense                                    |  |      | 1,319   |      |   | 1,740   |  |      | 1,636   |      |   | 1,231   |  |   | 936    
|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        
|Net income                                            |  | $    | 2,424   |      | $ | 2,951   |  | $    | 2,981   |      | $ | 2,173   |  | $ | 1,674  
|                                                      |  |      |         |      |   |         |  |      |         |      |   |         |  |   |        



5



---

|                                         |  |      |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|---------------------------------------- |  | ---- | --------- | - | ---- | - | --------- | ---- |  | - | --------- | - |  | ---- | --------- | - |  | - | --------- | -
|Key Financial Ratios and Other Data      |  | 2007 |           |   | 2006 |   |           | 2005 |  |   | 2004      |   |  | 2003 |          
|Return on average assets                 |  |      |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Net income divided by average assets     |  |      | 0.69      | % |      |   | 0.93      | %    |  |   | 0.97      | % |  |      | 0.84      | % |  |   | 0.75      | %
|Return on average equity                 |  |      |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Net income divided by average equity     |  |      | 9.51      | % |      |   | 13.21     | %    |  |   | 15.04     | % |  |      | 12.48     | % |  |   | 10.60     | %
|Equity to asset ratio                    |  |      |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Average equity divided by average assets |  |      | 7.28      | % |      |   | 6.96      | %    |  |   | 6.46      | % |  |      | 6.73      | % |  |   | 7.11      | %
|Diluted earnings per share (1)           |  | $    | 0.58      |   |      | $ | 0.70      |      |  | $ | 0.71      |   |  | $    | 0.52      |   |  | $ | 0.41      |  
|Book value per share (1)                 |  | $    | 6.69      |   |      | $ | 5.88      |      |  | $ | 5.15      |   |  | $    | 4.61      |   |  | $ | 4.08      |  
|Tangible book value per share (1)        |  | $    | 6.69      |   |      | $ | 5.88      |      |  | $ | 5.15      |   |  | $    | 4.61      |   |  | $ | 4.08      |  
|Number of shares outstanding (1)         |  |      | 4,014,928 |   |      |   | 4,101,893 |      |  |   | 4,072,800 |   |  |      | 4,050,480 |   |  |   | 4,031,932 |  
|Efficiency ratio                         |  |      | 69.37     | % |      |   | 65.58     | %    |  |   | 63.02     | % |  |      | 68.24     | % |  |   | 73.90     | %
|Interest rate spread                     |  |      | 3.06      | % |      |   | 3.47      | %    |  |   | 3.65      | % |  |      | 3.71      | % |  |   | 3.67      | %
|Net interest margin                      |  |      | 3.59      | % |      |   | 3.96      | %    |  |   | 4.00      | % |  |      | 4.00      | % |  |   | 3.95      | %
|Risk based capital ratio  Tier 1        |  |      | 12.49     | % |      |   | 12.74     | %    |  |   | 12.31     | % |  |      | 11.14     | % |  |   | 12.17     | %
|Risk based capital ratio  Total         |  |      | 13.39     | % |      |   | 13.58     | %    |  |   | 13.23     | % |  |      | 12.00     | % |  |   | 13.09     | %



|(1) | Adjusted to effect a four-for-three stock split in the form of a stock dividend issued on December 3, 2004.
|--- | -----------------------------------------------------------------------------------------------------------

The following table presents a condensed average balance sheet as well as income/expense and yields/costs of funds thereon for the years ended December 31, 2007,
2006 and 2005. The yields and costs are derived by dividing income or expense by the average balance of assets or liabilities for the periods shown. Average balances are derived from average daily balances. The yields and costs include loan fees
that are considered adjustments to yields. Net interest spread, the difference between the average rate on interest bearing assets and the average rate on interest bearing liabilities, decreased to 3.06% for the year ended December 31, 2007
from 3.47% at December 31, 2006.



6



---

Consolidated Average Balances, Yields and Rates

(Balances in thousands)



|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|---------------------------------------------------------------- |  | ----------------- | ------- | ----------- | ----------------- | ---------- |  | ----------------- | -------------- |  | ----------- | ------- | ---------- | - | ------ | -------------- | ------ | ----------- |  | ---------- | ------- |  | - | ------ |  | ------ | -
|                                                                 |  | Years Ended       |        
|                                                                 |  | December 31, 2007 |         |             | December 31, 2006 |            |  | December 31, 2005 |               
|                                                                 |  | AverageBalance    |         | Interest(1) |                   | Yield/Rate |  |                   | AverageBalance |  | Interest(1) |         | Yield/Rate |   |        | AverageBalance |        | Interest(1) |  | Yield/Rate |        
|Assets                                                           |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Interest Earning Assets                                          |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Federal funds sold and other overnight investments               |  | $                 | 17,531  |             | $                 | 879        |  | 5.01              | %              |  | $           | 13,648  |            | $ | 709    |                | 5.19   | %           |  | $          | 17,449  |  | $ | 572    |  | 3.28   | %
|Interest bearing balances in other banks                         |  |                   | 627     |             |                   | 29         |  | 4.63              | %              |  |             |        |            |   |       |                |       |             |  |            |        |  |   |       |  |       |  
|Investment securities                                            |  |                   | 79,403  |             |                   | 3,785      |  | 4.77              | %              |  |             | 71,273  |            |   | 3,128  |                | 4.39   | %           |  |            | 60,997  |  |   | 2,446  |  | 4.01   | %
|Loans                                                            |  |                   | 232,819 |             |                   | 17,773     |  | 7.63              | %              |  |             | 213,640 |            |   | 16,009 |                | 7.49   | %           |  |            | 208,280 |  |   | 14,086 |  | 6.76   | %
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Total interest earning assets                                    |  |                   | 330,380 |             |                   | 22,466     |  | 6.80              | %              |  |             | 298,561 |            |   | 19,846 |                | 6.65   | %           |  |            | 286,726 |  |   | 17,104 |  | 5.97   | %
|Noninterest Earning Assets                                       |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Cash and due from banks                                          |  |                   | 5,636   |             |                   |            |  |                   |                |  |             | 6,205   |            |   |        |                |        |             |  |            | 8,586   |  |   |        |  |        |  
|Other assets                                                     |  |                   | 14,061  |             |                   |            |  |                   |                |  |             | 13,856  |            |   |        |                |        |             |  |            | 11,379  |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Total Assets                                                     |  | $                 | 350,077 |             |                   |            |  |                   |                |  | $           | 318,622 |            |   |        |                |        |             |  | $          | 306,691 |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |               
|Liabilities and Stockholders Equity                             |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Interest Bearing Deposits                                        |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|NOW accounts                                                     |  | $                 | 31,699  |             | $                 | 65         |  | 0.21              | %              |  | $           | 37,789  |            | $ | 76     |                | 0.20   | %           |  | $          | 36,251  |  | $ | 82     |  | 0.23   | %
|Money market accounts                                            |  |                   | 80,262  |             |                   | 3,262      |  | 4.06              | %              |  |             | 63,270  |            |   | 2,293  |                | 3.62   | %           |  |            | 49,534  |  |   | 958    |  | 1.93   | %
|Savings accounts                                                 |  |                   | 33,842  |             |                   | 951        |  | 2.81              | %              |  |             | 16,750  |            |   | 66     |                | 0.39   | %           |  |            | 20,213  |  |   | 77     |  | 0.38   | %
|Certificates of deposit                                          |  |                   | 101,743 |             |                   | 4,692      |  | 4.61              | %              |  |             | 95,935  |            |   | 3,821  |                | 3.98   | %           |  |            | 98,390  |  |   | 3,105  |  | 3.16   | %
|Repurchase agreements                                            |  |                   | 15,590  |             |                   | 613        |  | 3.93              | %              |  |             | 14,084  |            |   | 522    |                | 3.71   | %           |  |            | 10,494  |  |   | 290    |  | 2.76   | %
|Short-term borrowings                                            |  |                   | 13      |             |                   | 1          |  | 3.87              | %              |  |             |        |            |   |       |                | 0.00   | %           |  |            |        |  |   |       |  | 0.00   | %
|Long-term borrowings                                             |  |                   | 15,493  |             |                   | 603        |  | 3.89              | %              |  |             | 19,718  |            |   | 838    |                | 4.19   | %           |  |            | 23,027  |  |   | 794    |  | 3.40   | %
|Junior subordinated debt                                         |  |                   | 5,000   |             |                   | 429        |  | 8.46              | %              |  |             | 5,000   |            |   | 418    |                | 8.25   | %           |  |            | 5,000   |  |   | 327    |  | 6.45   | %
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Total interest bearing liabilities                               |  |                   | 283,642 |             |                   | 10,616     |  | 3.74              | %              |  |             | 252,546 |            |   | 8,034  |                | 3.18   | %           |  |            | 242,909 |  |   | 5,633  |  | 2.32   | %
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Noninterest Bearing Liabilities                                  |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Demand deposit accounts                                          |  |                   | 39,794  |             |                   |            |  |                   |                |  |             | 42,714  |            |   |        |                |        |             |  |            | 42,933  |  |   |        |  |        |  
|Other liabilities                                                |  |                   | 1,153   |             |                   |            |  |                   |                |  |             | 1,172   |            |   |        |                |        |             |  |            | 1,029   |  |   |        |  |        |  
|Stockholders Equity                                             |  |                   | 25,488  |             |                   |            |  |                   |                |  |             | 22,190  |            |   |        |                |        |             |  |            | 19,820  |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|Total Liabilities and Stockholders Equity                       |  | $                 | 350,077 |             |                   |            |  |                   |                |  | $           | 318,622 |            |   |        |                |        |             |  | $          | 306,691 |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  
|                                                                 |  |                   |         |             |                   |            |  |                   |               
|Interest rate spread                                             |  |                   |         |             |                   |            |  | 3.06              | %              |  |             |         |            |   |        |                | 3.47   | %           |  |            |         |  |   |        |  | 3.65   | %
|Ratio of interest earning assets to interest bearing liabilities |  |                   |         |             |                   |            |  | 116.48            | %              |  |             |         |            |   |        |                | 118.22 | %           |  |            |         |  |   |        |  | 118.04 | %
|Net interest income and net interest margin                      |  |                   |         |             | $                 | 11,850     |  | 3.59              | %              |  |             |         |            | $ | 11,812 |                | 3.96   | %           |  |            |         |  | $ | 11,471 |  | 4.00   | %
|                                                                 |  |                   |         |             |                   |            |  |                   |                |  |             |         |            |   |        |                |        |             |  |            |         |  |   |        |  |        |  



|(1) | No tax-equivalent adjustments are made, as the effect would not be material.
|--- | ----------------------------------------------------------------------------



7



---

Rate/Volume Analysis

(Dollars in thousands)



|                                                   |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|-------------------------------------------------- | --------------------- | ------------- | ----- | ---------------- | ------------- | - | ----- | - |  | ---------------- | ----- | - | --------------------- | - | ---- | ------ |  | - | ----- | - |  | ----------- | ---- | - |  | - | ----- | - |  | - | ---- | -
|                                                   |                       | 2007 vs. 2006 |       |                  | 2006 vs. 2005 |  
|                                                   |                       |               |       | Due to Change in |               |   |       |   |  | Due to Change in |      
|                                                   | Increase or(Decrease) |               |       | Volume           |               |   | Rate  |   |  | Rate/Volume      |       |   | Increase or(Decrease) |   |      | Volume |  |   | Rate  |   |  | Rate/Volume |     
|Interest income on:                                |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Loans                                              |                       | $             | 1,764 |                  |               | $ | 1,437 |   |  | $                | 300   |   |                       | $ | 27   |        |  | $ | 1,923 |   |  | $           | 363  |   |  | $ | 1,521 |   |  | $ | 39   |  
|Investment securities                              |                       |               | 657   |                  |               |   | 384   |   |  |                  | 243   |   |                       |   | 30   |        |  |   | 683   |   |  |             | 412  |   |  |   | 232   |   |  |   | 39   |  
|Interest bearing deposits in other banks           |                       |               | 29    |                  |               |   |      |   |  |                  |      |   |                       |   | 29   |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Federal funds sold and other overnight investments |                       |               | 170   |                  |               |   | 169   |   |  |                  | 1     |   |                       |   |     |        |  |   | 136   |   |  |             | (124 | ) |  |   | 333   |   |  |   | (73  | )
|                                                   |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Total interest income                              |                       |               | 2,620 |                  |               |   | 1,990 |   |  |                  | 544   |   |                       |   | 86   |        |  |   | 2,742 |   |  |             | 651  |   |  |   | 2,086 |   |  |   | 5    |  
|                                                   |                       |               |       |                  |               |   |       |  
|Interest expense on:                               |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|NOW accounts                                       |                       |               | (11   | )                |               |   | (13   | ) |  |                  | 2     |   |                       |   |     |        |  |   | (6    | ) |  |             | 3    |   |  |   | (9    | ) |  |   |     |  
|Money market accounts                              |                       |               | 969   |                  |               |   | 616   |   |  |                  | 278   |   |                       |   | 75   |        |  |   | 1,335 |   |  |             | 266  |   |  |   | 837   |   |  |   | 232  |  
|Savings accounts                                   |                       |               | 885   |                  |               |   | 68    |   |  |                  | 404   |   |                       |   | 413  |        |  |   | (11   | ) |  |             | (13  | ) |  |   | 2     |   |  |   |     |  
|Certificates of deposit                            |                       |               | 871   |                  |               |   | 231   |   |  |                  | 603   |   |                       |   | 37   |        |  |   | 716   |   |  |             | (78  | ) |  |   | 814   |   |  |   | (20  | )
|Repurchase agreements                              |                       |               | 91    |                  |               |   | 56    |   |  |                  | 32    |   |                       |   | 3    |        |  |   | 232   |   |  |             | 99   |   |  |   | 99    |   |  |   | 34   |  
|Short-term borrowing                               |                       |               | 1     |                  |               |   |      |   |  |                  |      |   |                       |   | 1    |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Long-term borrowing                                |                       |               | (235  | )                |               |   | (179  | ) |  |                  | (70   | ) |                       |   | 14   |        |  |   | 44    |   |  |             | (114 | ) |  |   | 184   |   |  |   | (26  | )
|Junior subordinated debt                           |                       |               | 11    |                  |               |   |      |   |  |                  | 11    |   |                       |   |     |        |  |   | 91    |   |  |             |     |   |  |   | 91    |   |  |   |     |  
|                                                   |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Total interest expense                             |                       |               | 2,582 |                  |               |   | 779   |   |  |                  | 1,260 |   |                       |   | 543  |        |  |   | 2,401 |   |  |             | 163  |   |  |   | 2,018 |   |  |   | 220  |  
|                                                   |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  
|Net interest income                                |                       | $             | 38    |                  |               | $ | 1,211 |   |  | $                | (716  | ) |                       | $ | (457 | )      |  | $ | 341   |   |  | $           | 488  |   |  | $ | 68    |   |  | $ | (215 | )
|                                                   |                       |               |       |                  |               |   |       |   |  |                  |       |   |                       |   |      |        |  |   |       |   |  |             |      |   |  |   |       |   |  |   |      |  

Risk Management

The Board of Directors is the foundation for effective corporate governance and risk management. The Board demands accountability of management, keeps stockholders and other constituencies interests in focus, advocates the
upholding of the Companys code of ethics, and fosters a strong internal control environment. Through its Audit Committee, the Board actively reviews critical risk positions, including market, credit, liquidity, and operational risk. The
Companys goal in managing risk is to reduce earnings volatility, control exposure to unnecessary risk, and ensure appropriate returns for risk assumed. Senior management manages risk at the business line level, supplemented with
corporate-level oversight through the Asset Liability Committee, internal audit and quality control functions.

Liquidity Risk Management and Capital
Resources

The objective of liquidity management is to ensure that the cash flow requirements of depositors and borrowers, as well as the operating cash
needs of the Company are met, taking into account all on- and off-balance sheet funding demands. Liquidity management also includes ensuring that cash flow needs are met at a reasonable cost. Liquidity risk arises from the possibility the Company
may not be able to satisfy current or future financial commitments, or the Company may become unduly reliant on alternative funding sources. The Company maintains a liquidity risk management policy to address and manage this risk. The policy
identifies the primary sources of liquidity, establishes procedures for monitoring and measuring liquidity, and establishes minimum liquidity requirements which comply with regulatory guidance. The liquidity position is continually monitored and
reported monthly to the Board of Directors.

Deposits, commercial reverse repurchase agreements, and lines of credit are the primary sources of the
Banks funds for lending and investing activities. During 2007 the Company repaid unfavorably priced advances that were matured or called totaling $25.0 million. The advances had an average cost of 4.44%. The Company replaced those advances
with $15.0 million in new Federal Home Loan Bank advances at an average cost of 3.22%. Secondary sources of funds are derived from loan repayments and investment maturities. Loan repayments and investment maturities can be considered a relatively
stable funding source, while deposit activity is greatly influenced by interest rates, general market conditions and competition.

The Bank offers a
variety of retail deposit account products to both consumer and commercial deposit customers. The Banks deposit accounts consist of savings, NOW accounts, checking accounts, money market accounts and certificate of deposit accounts. The Bank
also offers individual retirement accounts. Time deposits comprised 32.6% of the deposit portfolio at December 31, 2007. Core deposits, considered to be noninterest bearing and interest bearing demand deposit accounts, savings deposits and
money market accounts, accounted for 67.4% of the deposit portfolio at December 31, 2007. This represents a 7.6% increase in the percentage of core deposits to total deposits. Core deposits accounted for 62.6% of the deposit portfolio at
December 31, 2006.



8



---

The Bank intends to continue to emphasize retail deposit accounts as its primary source of liquidity. In April 2007 the
Bank introduced the Superior Savings account offering a promotional interest rate from April 2007 until June 10, 2007 for new money deposited with the Bank. At December 31, 2007 the balance of superior savings accounts totaled $33.6
million. Deposit products are promoted in periodic newspaper advertisements, along with notices provided in customer account statements. The Banks market strategy is based on its reputation as a community bank providing quality products and
personal customer service.

The Bank pays interest rates on interest bearing deposit products competitive with rates offered by other financial
institutions in its market area, and in certain deposit categories may lead the market. Interest rates on deposits are reviewed by management which considers a number of factors including: (1) the Banks internal cost of funds;
(2) rates offered by competing financial institutions; (3) investing and lending opportunities; and (4) the Banks liquidity position.

Jumbo certificates of deposit are accounts of $100,000 or more. These accounts totaled $41.3 million at December 31, 2007 and consisted principally of time certificates of deposit. The following table sets forth the amount and maturity
of jumbo certificates of deposit at December 31, 2007:

(Dollars in thousands)



|                    |  |                                       |  |                                   |  |                      |  |        
|------------------- |  | ------------------------------------- |  | --------------------------------- |  | -------------------- |  | -------
|Three Monthsor Less |  | Greater thanThree Monthsto Six Months |  | Greater thanSix Monthsto One Year |  | Greater thanOne Year |  | Total  
|$16,393             |  | $6,936                                |  | $9,721                            |  | $8,262               |  | $41,312
|                    |  |                                       |  |                                   |  |                      |  |        

Securities sold under agreements to repurchase represent transactions with customers for correspondent or
commercial account cash management services. These are overnight borrowing arrangements with interest rates discounted from the federal funds sold rate. Securities underlying the repurchase agreements are maintained in the Companys control.
For the years ended December 31, 2007 and 2006, the average cost of these borrowings was 3.93% and 3.71%, respectively.

The Bank maintains a secured
borrowing line with the Federal Home Loan Bank (FHLB) with the potential to draw up to $144.8 million, and may borrow up to $15.5 million under secured and unsecured lines established with correspondent commercial banks. In addition, the Bank has
the ability to borrow directly from the Federal Reserve Bank discount window. At December 31, 2007, the Bank had advances outstanding of $20.0 million under the Federal Home Loan Banks convertible advance program and had borrowed $4.2
million overnight utilizing one of its $5.0 million unsecured lines of credit.

Potential adverse impacts on liquidity can occur as a result of changes in
the estimated cash flows from investment, loan, and deposit portfolios. The Bank manages this inherent risk by maintaining a portfolio of available for sale investments and through secondary sources of liquidity including FHLB advances and reverse
repurchase agreements. In addition, the Bank has the ability to increase its liquidity by raising interest rates on deposit accounts, selling loans in the secondary market or curtailing the volume of loan originations.

The Bank maintains the majority of the assets held for liquidity purposes in overnight federal funds.

Interest Rate Risk Sensitivity

Interest rate sensitivity is an important factor in the management of the composition
and maturity configurations of the Companys interest earning assets and funding sources. Additionally, the Banks profitability is dependent to a large extent upon its net interest income, which is the difference between its interest
income on interest bearing assets, such as loans and investments, and its interest expense on its funding sources, such as deposits and borrowings. Accordingly, the Banks results of operations and financial condition are largely dependent on
movements in market interest rates and its ability to manage its assets in response to such movements.

The Bank attempts to manage fluctuations in
interest rates by matching the maturities of its interest earning assets and interest bearing liabilities. The Banks current strategy to manage its sensitivity to interest rate fluctuations is to emphasize adjustable rate loans and to invest
in short-term U.S. Government agency securities with maturities or call dates of five years or less. Prior to the most recent Federal Reserve rate changes the Bank increased its activity in fixed rate loans to stabilize the net interest margin. To
reduce the negative impact of engaging in excessive fixed rate lending in a volatile rate environment, the Bank uses a third party for settlement of the majority of long-term fixed rate loans.

The following table summarizes the anticipated maturities or repricing of the Companys interest earning assets and interest bearing liabilities as of
December 31, 2007, and the Companys interest sensitivity gap (i.e., interest earning assets less interest bearing liabilities). A positive gap for any time period indicates that more interest earning assets will mature or reprice during
that period



9



---

than interest bearing liabilities. The Companys goal is to maintain a cumulative gap position for the period of one year or less of plus or minus
fifteen percent in order to mitigate the impact of changes in interest rates on liquidity, interest margins and operating results. The actual results show the Bank to be more negatively gapped in the short-term than the fifteen percent plus or minus
goal. This is not seen as an issue at this time based on the current interest rate environment. As interest rates fall the negatively gapped scenario presented below will proved adequate cash flow while allowing for repayment of numerous deposit
accounts

The analysis presented below represents a static gap position for interest sensitive assets and liabilities at December 31, 2007, and does
not give effect to call features of investment securities and prepayment or extension of loans as a result of changes in general market rates.

Interest
Sensitivity Gap Analysis

December 31, 2007

(Dollars
in thousands)



|                                                                                     |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|------------------------------------------------------------------------------------ |  | ----------------- | ------- | -- | --------------------------------- | - | -------- | ----------------------------- |  | - | --------------- | -- |  | ----- | ------- | - |  | - | -------
|                                                                                     |  | WithinThreeMonths |         |    | After Threebut withinTwelveMonths |   |          | After Onebut withinFive Years |  |   | AfterFive Years |    |  | Total
|Assets                                                                               |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|Federal funds sold and other overnight investments                                   |  | $                 | 1,588   |    |                                   | $ |         |                               |  | $ |                |    |  | $     |        |   |  | $ | 1,588  
|Interest bearing balances with banks                                                 |  |                   | 11,500  |    |                                   |   |         |                               |  |   |                |    |  |       |        |   |  |   | 11,500 
|Investment securities (1)                                                            |  |                   | 2,996   |    |                                   |   | 14,341   |                               |  |   | 14,932          |    |  |       | 48,276  |   |  |   | 80,545 
|Loans (2) (3)                                                                        |  |                   | 64,760  |    |                                   |   | 14,656   |                               |  |   | 113,224         |    |  |       | 52,758  |   |  |   | 245,398
|                                                                                     |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|                                                                                     |  | $                 | 80,844  |    |                                   | $ | 28,997   |                               |  | $ | 128,156         |    |  | $     | 101,034 |   |  | $ | 339,031
|                                                                                     |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|                                                                                     |  |                   |         |    |                                  
|Liabilities                                                                          |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|Interest bearing liabilities                                                         |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|NOW accounts (5)                                                                     |  | $                 | 2,825   |    |                                   | $ | 5,651    |                               |  | $ | 19,778          |    |  | $     |        |   |  | $ | 28,254 
|Money market accounts (5)                                                            |  |                   | 79,370  |    |                                   |   | 1,982    |                               |  |   | 3,965           |    |  |       |        |   |  |   | 85,317 
|Savings accounts (5)                                                                 |  |                   | 34,694  |    |                                   |   | 2,250    |                               |  |   | 7,876           |    |  |       |        |   |  |   | 44,820 
|Certificates of deposit (4)                                                          |  |                   | 27,340  |    |                                   |   | 47,499   |                               |  |   | 20,285          |    |  |       |        |   |  |   | 95,124 
|Commercial repurchase agreements                                                     |  |                   | 13,337  |    |                                   |   |         |                               |  |   |                |    |  |       |        |   |  |   | 13,337 
|Short-term borrowings                                                                |  |                   | 4,170   |    |                                   |   |         |                               |  |   |                |    |  |       |        |   |  |   | 4,170  
|Long-term borrowings                                                                 |  |                   |        |    |                                   |   | 5,000    |                               |  |   | 15,000          |    |  |       |        |   |  |   | 20,000 
|Junior subordinated debt                                                             |  |                   |        |    |                                   |   |         |                               |  |   |                |    |  |       | 5,000   |   |  |   | 5,000  
|                                                                                     |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|                                                                                     |  | $                 | 161,736 |    |                                   | $ | 62,382   |                               |  | $ | 66,904          |    |  | $     | 5,000   |   |  | $ | 296,022
|                                                                                     |  |                   |         |    |                                   |   |          |                               |  |   |                 |    |  |       |         |   |  |   |        
|                                                                                     |  |                   |         |    |                                  
|Interest sensitivity gap                                                             |  | $                 | (80,892 | )  |                                   | $ | (33,385  | )                             |  | $ | 61,252          |    |  | $     | 96,034  |   |  | $ | 43,009 
|Cumulative interest sensitivity gap                                                  |  | $                 | (80,892 | )  |                                   | $ | (114,277 | )                             |  | $ | (53,025         | )  |  | $     | 43,009  |   |  |   |        
|Cumulative interest sensitivity gap as a percentage of total interest-earning assets |  |                   | (23.86  | )% |                                   |   | (33.71   | )%                            |  |   | (15.64          | )% |  |       | 12.69   | % |  |   |        



|(1) | Net of Federal Reserve Bank, Federal Home Loan Bank stock and other equity investments by call date.
|--- | ----------------------------------------------------------------------------------------------------

|(2) | Loans scheduled by contractual maturities.
|--- | ------------------------------------------

|(3) | Net of non-accrual loans of $787 thousand and deferred fees of $161 thousand.
|--- | -----------------------------------------------------------------------------

|(4) | Certificates of deposits scheduled by contractual maturities.
|--- | -------------------------------------------------------------

|(5) | NOW, savings and money market accounts are presented using decay rates and historical repricing patterns.
|--- | ---------------------------------------------------------------------------------------------------------

Investment Portfolio

At December 31, 2007, the Banks
investment portfolio, which totaled $83.1 million, consisted primarily of U.S. Government Agency securities and mortgage-backed securities. The Company invests primarily in state tax exempt U.S. Government Agency securities in order to minimize its
state income tax liability. Additionally, the Company owns $504,200 in stock of the Federal Reserve Bank of Richmond, $1,533,300 in stock of the Federal Home Loan Bank of Atlanta (FHLB) and a $541 thousand investment in a community development
activity qualified mutual fund. Management generally maintains an investment portfolio with relatively short maturities to minimize overall interest rate risk. At December 31, 2007, approximately 40.1% of the securities had contractual
maturities of five years or less.

Investment decisions are made within policy guidelines established by the Board of Directors. It is the Banks
policy to invest in non-speculative debt instruments, particularly debt instruments that are guaranteed by the U.S. Government or an agency thereof, to maintain a diversified investment portfolio which complements the overall asset/liability and
liquidity objectives of the Bank, while limiting the related credit risk to an acceptable level. To meet the credit risk objectives, non-government debt instruments must have a rating of B or better to be held in the portfolio. The
Banks investment policy designates the investment portfolio to be classified as available-for-sale, unless otherwise designated. At December 31, 2007, 100% of the investment portfolio was classified available-for-sale. The
composition of securities at December 31, for each of the past five fiscal years was:

(Dollars in thousands)



|                    |  |      |        |      |   |        |  |      |        |      |   |        |  |   |       
|------------------- |  | ---- | ------ | ---- | - | ------ |  | ---- | ------ | ---- | - | ------ |  | - | ------
|                    |  | 2007 |        | 2006 |   | 2005   |  | 2004 |        | 2003
|Available for Sale  |  |      |        |      |   |        |  |      |        |      |   |        |  |   |       
|U.S. Agency         |  | $    | 55,496 |      | $ | 51,127 |  | $    | 44,315 |      | $ | 33,139 |  | $ | 28,167
|State and Municipal |  |      | 868    |      |   | 1,029  |  |      |       |      |   |       |  |   |      
|Mortgage-backed     |  |      | 24,181 |      |   | 24,526 |  |      | 27,840 |      |   | 19,209 |  |   | 8,798 
|Equity Securities   |  |      | 2,578  |      |   | 2,975  |  |      | 1,747  |      |   | 2,092  |  |   | 1,004 
|                    |  |      |        |      |   |        |  |      |        |      |   |        |  |   |       
|Total Securities    |  | $    | 83,123 |      | $ | 79,657 |  | $    | 73,902 |      | $ | 54,440 |  | $ | 37,969
|                    |  |      |        |      |   |        |  |      |        |      |   |        |  |   |       



10



---

The following table presents maturities and weighted average yields for investments in available-for-sale securities net
of Federal Reserve Bank and Federal Home Loan Bank stock and other equity securities.

December 31, 2007

(Dollars in thousands)



|                      |  |                   |        |       |                               |   |        |                          |        |  |      |        |  |       |        |  |      |  
|--------------------- |  | ----------------- | ------ | ----- | ----------------------------- | - | ------ | ------------------------ | ------ |  | ---- | ------ |  | ----- | ------ |  | ---- | -
|                      |  | Years to Maturity |       
|                      |  | Within One Year   |        |       | Within One Year to Five Years |   |        | Within Five to Ten Years |       
|                      |  | Amount            |        | Yield |                               |   | Amount |                          | Yield  |  |      | Amount |  | Yield |       
|Available for Sale    |  |                   |        |       |                               |   |        |                          |        |  |      |        |  |       |        |  |      |  
|U.S. Agency           |  | $                 | 17,248 |       | 3.76                          | % |        | $                        | 14,364 |  | 4.17 | %      |  | $     | 20,884 |  | 5.73 | %
|State and Municipal   |  |                   |       |       | 0.00                          | % |        |                          | 116    |  | 4.20 | %      |  |       | 752    |  | 4.41 | %
|Mortgage-backed       |  |                   | 89     |       | 5.50                          | % |        |                          | 452    |  | 4.00 | %      |  |       |       |  | 0.00 | %
|                      |  |                   |        |       |                               |   |        |                          |        |  |      |        |  |       |        |  |      |  
|Total Debt Securities |  | $                 | 17,337 |       | 3.77                          | % |        | $                        | 14,932 |  | 4.16 | %      |  | $     | 21,636 |  | 5.56 | %
|                      |  |                   |        |       |                               |   |        |                          |        |  |      |        |  |       |        |  |      |  



|                      |  |                        |        |       |      |   |       |   |       
|--------------------- |  | ---------------------- | ------ | ----- | ---- | - | ----- | - | ------
|                      |  | Greater than Ten Years |        |       |     
|                      |  | Amount                 |        | Yield |      |   | Total
|Available for Sale    |  |                        |        |       |      |   |       |   |       
|U.S. Agency           |  | $                      | 3,000  |       | 5.60 | % |       | $ | 55,496
|State and Municipal   |  |                        |       |       | 0.00 | % |       |   | 868   
|Mortgage-backed       |  |                        | 23,640 |       | 5.17 | % |       |   | 24,181
|                      |  |                        |        |       |      |   |       |   |       
|Total Debt Securities |  | $                      | 26,640 |       | 5.22 | % |       | $ | 80,545
|                      |  |                        |        |       |      |   |       |   |       

Actual maturities of these securities may differ from contractual maturities because borrowers may have the right
to prepay obligations with or without call or prepayment penalties.

Lending Activities

The types of loans that the Bank may originate are subject to federal laws and regulations. Interest rates charged by the Bank on loans are affected by the demand for
such loans and the supply of money available for lending purposes and the rates offered by competitors.

These factors are, in turn, affected by, among
other things, economic conditions, monetary policies of the federal government, including the Federal Reserve Board, and legislative tax policies.



11



---

Analysis of Loans

The following table presents the composition of the loan portfolio over the previous five years:

As of December 31,

(Dollars in thousands)



|                                  |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|--------------------------------- |  | ------ | ------- | - | ------- | ----- | - | ------ | - | ------- | ------- |  | ----- | ------ |  | - | ------- | - |  | ------ | - |  | ------- | ------- | - | ------ | ----- | - | ------- | - | ------- | - |  | ----- | -
|                                  |  | 2007   |         |   | 2006    |       |   | 2005   |   |         | 2004    |  |       | 2003   | 
|                                  |  | Amount |         |   | Percent |       |   | Amount |   |         | Percent |  |       | Amount |  |   | Percent |   |  | Amount |   |  | Percent |         |   | Amount |       |   | Percent |  
|Commercial loans                  |  | $      | 46,007  |   |         | 18.7  | % |        | $ | 40,545  |         |  | 18.3  | %      |  | $ | 40,260  |   |  | 19.7   | % |  | $       | 42,248  |   |        | 20.7  | % |         | $ | 41,173  |   |  | 24.4  | %
|Real estate loans                 |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|Commercial                        |  |        | 71,537  |   |         | 29.0  | % |        |   | 60,995  |         |  | 27.5  | %      |  |   | 55,479  |   |  | 27.1   | % |  |         | 48,628  |   |        | 23.8  | % |         |   | 44,214  |   |  | 26.2  | %
|Construction                      |  |        | 24,563  |   |         | 10.0  | % |        |   | 23,304  |         |  | 10.5  | %      |  |   | 25,646  |   |  | 12.5   | % |  |         | 32,004  |   |        | 15.7  | % |         |   | 24,713  |   |  | 14.6  | %
|One-to four-family                |  |        | 64,796  |   |         | 26.3  | % |        |   | 57,251  |         |  | 25.8  | %      |  |   | 39,018  |   |  | 19.1   | % |  |         | 32,571  |   |        | 16.0  | % |         |   | 18,869  |   |  | 11.2  | %
|Home equity                       |  |        | 21,376  |   |         | 8.7   | % |        |   | 22,567  |         |  | 10.2  | %      |  |   | 25,134  |   |  | 12.3   | % |  |         | 28,194  |   |        | 13.8  | % |         |   | 20,341  |   |  | 12.1  | %
|Consumer loans                    |  |        | 18,070  |   |         | 7.3   | % |        |   | 17,063  |         |  | 7.7   | %      |  |   | 18,977  |   |  | 9.3    | % |  |         | 20,325  |   |        | 10.0  | % |         |   | 19,431  |   |  | 11.5  | %
|                                  |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|Total loans                       |  |        | 246,349 |   |         | 100.0 | % |        |   | 221,725 |         |  | 100.0 | %      |  |   | 204,514 |   |  | 100.0  | % |  |         | 203,970 |   |        | 100.0 | % |         |   | 168,741 |   |  | 100.0 | %
|                                  |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|Less:                             |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|(Unearned income), deferred costs |  |        | (161    | ) |         |       |   |        |   | 45      |         |  |       |        |  |   | 66      |   |  |        |   |  |         | 158     |   |        |       |   |         |   | 14      |   |  |       |  
|Allowance for credit losses       |  |        | (2,283  | ) |         |       |   |        |   | (1,976  | )       |  |       |        |  |   | (2,012  | ) |  |        |   |  |         | (1,832  | ) |        |       |   |         |   | (1,632  | ) |  |       |  
|                                  |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  
|Net loans receivable              |  | $      | 243,905 |   |         |       |   |        | $ | 219,794 |         |  |       |        |  | $ | 202,568 |   |  |        |   |  | $       | 202,296 |   |        |       |   |         | $ | 167,123 |   |  |       |  
|                                  |  |        |         |   |         |       |   |        |   |         |         |  |       |        |  |   |         |   |  |        |   |  |         |         |   |        |       |   |         |   |         |   |  |       |  

The Banks loan portfolio consists of commercial, commercial real estate, residential construction, one- to
four-family residential mortgage, home equity and consumer loans. At December 31, 2007 the Banks loan portfolio totaled $246.3 million, of which $46.0 million, or 18.7%, was commercial loans; $71.5 million, or 29.0%, was commercial real
estate loans; $24.6 million, or 10.0%, was construction loans; $64.8 million, or 26.3%, was one- to four-family residential mortgage loans; $21.4 million, or 8.7%, was home equity loans, and; $18.1 million, or 7.3%, was consumer and other loans. All
of the loans in the Banks portfolio are either adjustable-rate with terms to maturity of 30 days to 30 years or short- to intermediate-term fixed-rate loans.

The following table presents the maturity distribution of the loan portfolio:

As of December 31,

(Dollars in thousands)



|                  |  |                       |        |                                       |   |                    |  |                 |        |                 |   |       |  |   |     |  |   |        
|----------------- |  | --------------------- | ------ | ------------------------------------- | - | ------------------ |  | --------------- | ------ | --------------- | - | ----- |  | - | --- |  | - | -------
|                  |  | Due inOne Yearor Less |        | Due afterOne Yearbut beforeFive Years |   | Due afterFiveYears |  | NonaccrualLoans |        | 90 DaysPast Due |   | Total
|Real estate loans |  |                       |        |                                       |   |                    |  |                 |        |                 |   |       |  |   |     |  |   |        
|Construction      |  | $                     | 21,573 |                                       | $ | 2,458              |  | $               |       |                 | $ | 532   |  | $ |    |  | $ | 24,563 
|Mortgage          |  |                       | 7,846  |                                       |   | 35,787             |  |                 | 20,992 |                 |   |      |  |   | 171 |  |   | 64,796 
|Commercial        |  |                       | 7,985  |                                       |   | 51,934             |  |                 | 11,618 |                 |   |      |  |   |    |  |   | 71,537 
|Commercial loans  |  |                       | 20,250 |                                       |   | 19,006             |  |                 | 6,635  |                 |   | 116   |  |   |    |  |   | 46,007 
|Home equity loans |  |                       | 20,891 |                                       |   | 235                |  |                 | 250    |                 |   |      |  |   |    |  |   | 21,376 
|Consumer loans    |  |                       | 1,033  |                                       |   | 3,804              |  |                 | 13,092 |                 |   | 139   |  |   |    |  |   | 18,070 
|                  |  |                       |        |                                       |   |                    |  |                 |        |                 |   |       |  |   |     |  |   |        
|Total loans       |  | $                     | 79,580 |                                       | $ | 113,224            |  | $               | 52,587 |                 | $ | 787   |  | $ | 171 |  | $ | 246,349
|                  |  |                       |        |                                       |   |                    |  |                 |        |                 |   |       |  |   |     |  |   |        



|                  |  |                    |        |              |   |        |  |   |        
|----------------- |  | ------------------ | ------ | ------------ | - | ------ |  | - | -------
|                  |  | Due After One Year
|                  |  | FixedRate          |        | VariableRate |   | Total 
|Real estate loans |  |                    |        |              |   |        |  |   |        
|Construction      |  | $                  | 2,458  |              | $ |       |  | $ | 2,458  
|Mortgage          |  |                    | 28,772 |              |   | 28,007 |  |   | 56,779 
|Commercial        |  |                    | 22,870 |              |   | 40,682 |  |   | 63,552 
|Commercial loans  |  |                    | 15,300 |              |   | 10,341 |  |   | 25,641 
|Home equity loans |  |                    | 485    |              |   |       |  |   | 485    
|Consumer loans    |  |                    | 5,620  |              |   | 11,276 |  |   | 16,896 
|                  |  |                    |        |              |   |        |  |   |        
|Total loans       |  | $                  | 75,505 |              | $ | 90,306 |  | $ | 165,811
|                  |  |                    |        |              |   |        |  |   |        

Commercial Lending. The Bank offers commercial business loans to businesses operating in the Banks
primary market area. These loans consist of lines of credit, which may require an annual repayment, adjustable-rate loans with terms of five to seven years, and fixed-rate loans with terms of up to five years. Such loans are generally secured by
receivables, inventories, equipment



12



---

and other assets of the business. The Bank generally requires personal guarantees on its commercial loans. The Bank also offers unsecured commercial loans to
businesses on a selective basis. These types of loans are made to existing customers and are of a short duration, generally one year or less. The Bank also originates commercial loans which are guaranteed by the Small Business Administration. The
Bank has been a participant in a variety of SBA loan programs.

Commercial Real Estate Lending. The Bank originates adjustable-rate commercial real
estate loans that are generally secured by properties used for business purposes such as small office buildings and retail facilities located in the Banks primary market area. The Banks underwriting procedures provide that commercial
real estate loans may generally be made in amounts up to 80-85% of the lower of the appraised value or sales price of the property, subject to the Banks current loans-to-one-borrower limit, which at December 31, 2007, was $5.0 million.
These loans may be made with terms up to 30 years if owner occupied and are generally offered at interest rates which adjust annually or annually after an initial three-, five- or seven-year period in accordance with the prime rate, or the 3 and 5
year U.S. Constant Maturity Indices as reported in the Wall Street Journal. In reaching a decision whether to make a commercial real estate loan, the Bank considers the value of the real estate to be financed and the credit strength of the borrower
and/or the lessee of the real estate project. The Bank has generally required that properties securing commercial real estate loans have debt service coverage ratios of at least 1.2:1.

Loans secured by commercial real estate properties generally involve larger principal amounts and a greater degree of risk than one- to four-family residential mortgage loans. Because payments on loans secured by
commercial real estate properties are often dependent on the successful operation or management of the properties, repayment of such loans may be subject to adverse conditions in the real estate market or the economy. The Bank seeks to minimize
these risks through its underwriting standards, which require such loans to be qualified on the basis of the propertys value, debt service coverage ratio, and, under certain circumstances, additional collateral. The Bank generally requires
personal guarantees on its commercial real estate loans.

Construction Lending. The Bank originates construction loans on both one- to four-family
residences and on commercial real estate properties. The Bank originates two types of residential construction loans, consumer and builder. The Bank originates consumer construction loans to build a primary residence, a secondary residence, or an
investment or rental property. The Bank will originate builder construction loans to companies engaged in the business of constructing homes for resale. These loans may be for homes currently under contract for sale, model homes from which other
homes will be marketed within a subdivision or, on a very limited basis, homes built for speculative purposes to be marketed for sale during construction. The Bank offers permanent end-financing to the Banks construction loan customers
generally on a 3/1 or 5/1 ARM basis.

The Bank originates land acquisition and development loans with the source of repayment being either the sale of
finished lots or the sale of homes to be constructed on the finished lots. The Bank will originate land acquisition, development, and construction loans on a revolving line of credit basis for subdivisions whereby the borrower may draw upon such
line of credit as lots are sold for the purpose of improving additional lots. Construction loans are generally offered with terms up to twelve months for consumer and builder loans, and up to twenty-four months for land development loans.

Construction loans are generally made in amounts up to 80% to 90% of the appraised market value of the security property. During construction, loan
proceeds are disbursed in draws as construction progresses based upon inspections of work in place by independent construction inspectors.

At
December 31, 2007, the Bank had construction loans, including land acquisition and development loans, totaling $24.6 million, or 10.0% of the Banks total loan portfolio, of which $4.6 million consisted of one- to four-family residential
construction loans, $11.9 million consisted of commercial real estate construction loans and $8.1 million consisted of land acquisition and development loans. Construction loans are generally considered to involve a higher degree of credit risk than
long-term financing on improved, owner-occupied real estate. Risk of loss on a construction loan is dependent largely upon the accuracy of the initial estimate of the security propertys value upon completion of construction as compared to the
estimated costs of construction, including interest. Also, the Bank assumes certain risks associated with the borrowers ability to complete construction in a timely and workmanlike manner. If the estimate of value proves to be inaccurate, or
if construction is not performed timely or accurately, the Bank may be faced with a project which, when completed, has a value that is insufficient to assure full repayment.

One- to Four-Family Residential Mortgage Lending. The Bank currently offers both fixed-rate and adjustable-rate mortgage loans, first and second mortgage loans secured by one- to four-family residences and lot
loans for one- to four-family residences located throughout the Baltimore-Washington Metropolitan area. It is currently the general policy of the Bank to originate for sale in the secondary market one- to four-family fixed-rate residential mortgage
loans which conform, except as to size, to the underwriting standards of Fannie Mae and Freddie Mac, and to originate for investment adjustable rate one- to four-family residential mortgage loans. The Bank generally does not retain the servicing
rights of loans it sells and sells such loans without recourse, with the exception of recourse in the event of breaches in any representations or warranties made by the Bank. The Bank recognizes, at the time of sale, the cash gain or loss on the
sale of the loans based on the difference between the net cash proceeds received and the carrying value of the loans sold. One- to four-family mortgage loan originations are generally obtained from the Banks loan representatives and their
contacts in the local real estate industry, direct contacts made by the Banks and the Companys directors, existing or past customers, and members of the local communities.



13



---

At December 31, 2007, one- to four-family residential mortgage loans totaled $64.8 million, or 26.3% of total loans.
Of the one-to four-family mortgage loans outstanding at that date, $29.0 million were fixed-rate loans with terms of up to fifteen years with a balloon payment at the end of the term, and $35.8 million were adjustable-rate loans with terms of up to
30 years and interest rates which adjust annually from the outset of the loan or which adjust annually after a 3 or 5 year initial period in which the loan has a fixed rate. The interest rates for the majority of the Banks adjustable-rate
mortgage loans are indexed to the one-year Treasury Constant Maturity Index. Interest rate increases on such loans are limited to a 2% annual adjustment cap with a maximum adjustment of 6% over the life of the loan.

The origination of adjustable-rate residential mortgage loans, as opposed to fixed-rate residential mortgage loans, helps to reduce the Banks exposure to increases
in interest rates. However, adjustable-rate loans generally pose credit risks not inherent in fixed-rate loans, primarily because as interest rates rise, the underlying payments of the borrower rise, thereby increasing the potential for default.
Although the Bank offers adjustable-rate loans at below market interest rates, all loans are underwritten to assure that the borrower is qualified on a fully indexed basis.

Periodic and lifetime caps on interest rate increases help to reduce the risks associated with the Banks adjustable-rate loans, but also limit the interest rate sensitivity of its adjustable-rate mortgage loans.

The Bank currently originates one- to four-family residential mortgage loans in amounts typically up to 80% (or higher with private mortgage insurance) of
the lower of the appraised value or the selling price of the property securing the loan. Mortgage loans originated by the Bank generally include due-on-sale clauses which provide the Bank with the contractual right to deem the loan immediately due
and payable in the event the borrower transfers ownership of the property without the Banks consent. Due-on-sale clauses are an important means of adjusting the yields on the Banks fixed-rate mortgage loan portfolio and the Bank has
generally exercised its rights under these clauses.

Home Equity Lending. As of December 31, 2007, home equity loans totaled $21.4 million, or
8.7% of the Banks total loan portfolio. Fixed-rate, fixed-term home equity loans and adjustable rate home equity lines of credit are generally offered in amounts up to 90% of the market value of the security property. Home equity lines of
credit are offered with terms up to twenty years. Substantially all of the Banks home equity loans are adjustable rate and reprice with changes in the Wall Street Journal prime rate.

Consumer Lending. The Banks portfolio of consumer loans primarily consists of adjustable rate, personal lines of credit and installment loans secured by new
or used automobiles, new or used boats, and loans secured by deposit accounts. At December 31, 2007, consumer loans totaled $18.1 million or 7.3% of total loans outstanding. Consumer loans are generally originated in the Banks primary
market area.

Provision for Credit Losses and Credit Risk Management

Originating loans involves a degree of risk that credit losses will occur in varying amounts according to, among other factors, the type of loans being made, the credit-worthiness of the borrowers over the term of the
loans, the quality of the collateral for the loan, if any, as well as general economic conditions.

The Banks allowance for credit losses is
established through a provision for loan losses based on managements evaluation of the risks inherent in its loan portfolio and the general economy. The allowance for credit losses is maintained at an amount management considers adequate to
cover estimated losses in loans receivable which are deemed probable and estimable based on information currently known to management. The Bank estimates an acceptable allowance for credit loss based upon loan risk ratings, prior periods
charge-offs and specific loss reserves. This methodology is appropriate as the Bank has at least ten years of loan loss history, has a sufficient number of loans for broader base estimation processes to be meaningful and has a risk rating review
system established for the purpose of maintaining accurate risk ratings on individual loans. The calculation of the allowance is based, in part, upon historical loss factors, as adjusted, for the major loan categories over the prior eight quarters.
The factors used to adjust the historical loss experience address various risk characteristics of the Banks loan portfolio including (1) trends in delinquencies and other nonperforming loans, (2) results of independent loan reviews,
(3) changes in the categories of loans comprising the loan portfolio, (4) concentrations of loans to specific industry segments, (5) changes in economic conditions on both a local and national level, (6) changes in the
Banks credit administration and loan portfolio management processes, (7) changes in the experience, ability and depth of lending management and staff, (8) the effect of the recent decline in local real estate values on the level of
potential credit losses in the Banks portfolio and (9) the impact of unresolved collateral and documentation exceptions on the potential credit losses in the Banks portfolio.

Management believes this approach effectively measures the risk associated with any particular loan or group of loans. The Board of Directors engages an independent loan
review consultant to evaluate the adequacy of the Banks allowance for



14



---

credit losses. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Banks allowance for
credit losses. Such agencies may require the Bank to make additional provisions for estimated credit losses based upon judgments different from those of management. The Bank recorded a total provision for credit losses of $448 thousand for the year
ended December 31, 2007 and $12 thousand in 2006. The aggregate provision was based upon the results of quarterly evaluations using a combination of factors including the ratio of the allowance for credit losses to total gross loans, the
Banks growth in total gross loans and the Banks net credit loss experience. Total gross loans increased by $24.6 million for the year ended December 31, 2007. The Bank recorded charge-offs of $184 thousand on loans deemed
uncollectible and recovered $43 thousand on previously charged-off loans. As of December 31, 2007, the Banks allowance for credit losses was $2.3 million or 0.93% of total loans and 208.4% of nonperforming loans as compared to $2.0
million, or 0.89% of total loans and 183.2% of nonperforming loans as of December 31, 2006. The Bank had total nonperforming loans of $1.1 at December 31, 2007 and December 31, 2006, and nonperforming loans to total loans of 0.44% and
0.49% at December 31, 2007, and December 31, 2006, respectively.

The Bank places loans on a nonaccrual status after 90 days of not having
received contractual principal or interest payments unless the loan is well secured and in the process of collection. In addition the Bank maintains a watch list of loans on a monthly basis that warrant more than the normal level of management
supervision. At December 31, 2007 the Bank had approximately $20.1 million in watch list loans compared to $6.9 million at December 31, 2006.

The Bank continues to monitor and modify its allowance for credit losses as conditions dictate. While management believes that, based on information currently available, the Banks allowance for credit losses is sufficient to cover
losses inherent in its loan portfolio at this time, no assurances can be given that the Banks level of allowance for credit losses will be sufficient to cover future loan losses incurred by the Bank or that future adjustments to the allowance
for credit losses will not be necessary if economic and other conditions differ substantially from the economic and other conditions at the time management determined the current level of the allowance for credit losses. Management may in the future
increase the level of allowance as its loan portfolio increases or as circumstances dictate.

The following table presents a three-year history for the
allocation of the allowance for credit losses, reflecting use of the methodology presented above, along with the percentage of total loans in each category.

At December 31,

(Dollars in thousands)



|                      |  |        |       |          |       |   |        |      |          |  |       |        |  |          |       |  |       |  
|--------------------- |  | ------ | ----- | -------- | ----- | - | ------ | ---- | -------- |  | ----- | ------ |  | -------- | ----- |  | ----- | -
|                      |  | 2007   |       |          | 2006  |   |        | 2005 |         
|                      |  | Amount |       | Loan Mix |       |   | Amount |      | Loan Mix |  |       | Amount |  | Loan Mix |      
|Amount applicable to: |  |        |       |          |       |   |        |      |          |  |       |        |  |          |       |  |       |  
|Commercial            |  | $      | 526   |          | 18.7  | % |        | $    | 505      |  | 18.3  | %      |  | $        | 586   |  | 19.7  | %
|Real estate           |  |        |       |          |       |   |        |      |          |  |       |        |  |          |       |  |       |  
|Commercial            |  |        | 736   |          | 29.0  | % |        |      | 679      |  | 27.5  | %      |  |          | 698   |  | 27.1  | %
|Residential           |  |        | 162   |          | 35.0  | % |        |      | 147      |  | 36.0  | %      |  |          | 81    |  | 31.6  | %
|Construction          |  |        | 364   |          | 10.0  | % |        |      | 233      |  | 10.5  | %      |  |          | 248   |  | 12.3  | %
|Consumer              |  |        | 495   |          | 7.3   | % |        |      | 412      |  | 7.7   | %      |  |          | 399   |  | 9.3   | %
|Non specific          |  |        |      |          |      |   |        |      |         |  |      |        |  |          |      |  |      |  
|                      |  |        |       |          |       |   |        |      |          |  |       |        |  |          |       |  |       |  
|Total allowance       |  | $      | 2,283 |          | 100.0 | % |        | $    | 1,976    |  | 100.0 | %      |  | $        | 2,012 |  | 100.0 | %
|                      |  |        |       |          |       |   |        |      |          |  |       |        |  |          |       |  |       |  



15



---

Analysis of Credit Risk

Activity in the allowance for credit losses for the preceding three years ended December 31 is shown below:

(Dollars in thousands)



|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|--------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | -
|                                                          |  | 2007 |         |   | 2006 |   |         | 2005 | 
|Total loans outstandingat December 31                    |  | $    | 246,188 |   |      | $ | 221,770 |      |  | $ | 204,580 |  
|Average loans outstanding for the year                    |  |      | 232,819 |   |      |   | 213,640 |      |  |   | 208,280 |  
|Allowance for credit losses at beginning of period        |  | $    | 1,976   |   |      | $ | 2,012   |      |  | $ | 1,832   |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|Provision charged to expense                              |  |      | 448     |   |      |   | 12      |      |  |   | 442     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|                                                          |  |      |        
|Chargeoffs:                                               |  |      |         |   |      |   |         |      |  |   |         |  
|Commercial loans                                          |  |      |        |   |      |   |        |      |  |   | 26      |  
|Consumer and other loans                                  |  |      | 184     |   |      |   | 119     |      |  |   | 274     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|Total                                                     |  |      | 184     |   |      |   | 119     |      |  |   | 300     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|                                                          |  |      |        
|Recoveries:                                               |  |      |         |   |      |   |         |      |  |   |         |  
|Commercial loans                                          |  |      |        |   |      |   |        |      |  |   | 5       |  
|Consumer and other loans                                  |  |      | 43      |   |      |   | 71      |      |  |   | 33      |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|Total                                                     |  |      | 43      |   |      |   | 71      |      |  |   | 38      |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|                                                          |  |      |        
|Net chargeoffs                                            |  |      | 141     |   |      |   | 48      |      |  |   | 262     |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|Allowance for credit losses at end of year                |  | $    | 2,283   |   |      | $ | 1,976   |      |  | $ | 2,012   |  
|                                                          |  |      |         |   |      |   |         |      |  |   |         |  
|                                                          |  |      |        
|Allowance for credit losses as a percent of total loans   |  |      | 0.93    | % |      |   | 0.89    | %    |  |   | 0.98    | %
|Net chargeoffs (recoveries) as a percent of average loans |  |      | 0.06    | % |      |   | 0.02    | %    |  |   | 0.13    | %

Contractual Obligations

The Bank has various financial obligations, including contractual obligations and commitments that may require future cash payments.

The following table presents, as of December 31, 2007, significant fixed and determinable contractual obligations to third parties by payment date.

(Dollars in thousands)



|                                |  |       |         |                   |   |                   |  |                    |        |                     |   |       |  |   |       
|------------------------------- |  | ----- | ------- | ----------------- | - | ----------------- |  | ------------------ | ------ | ------------------- | - | ----- |  | - | ------
|Payments due by Period          |  | Total |         | Less thanone year |   | One to threeyears |  | Three tofive years |        | More than fiveyears
|Deposits with a stated maturity |  | $     | 95,124  |                   | $ | 74,839            |  | $                  | 17,739 |                     | $ | 2,546 |  | $ |      
|Short-term borrowings           |  |       | 4,170   |                   |   | 4,170             |  |                    |        |                     |   |       |  |   |       
|Long-term borrowings            |  |       | 20,000  |                   |   | 5,000             |  |                    |       |                     |   |      |  |   | 15,000
|Junior subordinated debentures  |  |       | 5,000   |                   |   |                  |  |                    |       |                     |   |      |  |   | 5,000 
|Operating lease obligations     |  |       | 2,977   |                   |   | 264               |  |                    | 698    |                     |   | 601   |  |   | 1,414 
|Data processing contracts       |  |       | 1,387   |                   |   | 427               |  |                    | 691    |                     |   | 269   |  |   |      
|                                |  |       |         |                   |   |                   |  |                    |        |                     |   |       |  |   |       
|                                |  | $     | 128,658 |                   | $ | 84,700            |  | $                  | 19,128 |                     | $ | 3,416 |  | $ | 21,414
|                                |  |       |         |                   |   |                   |  |                    |        |                     |   |       |  |   |       

Off-Balance Sheet Arrangements

As of December 31, 2007, the Company had a wholly-owned statutory trust formed for the purpose of issuing junior subordinated debentures in the form of trust preferred securities. The statutory trust has not been
consolidated with the holding company.

The Company does have significant commitments to fund loans in the ordinary course of business. Such commitments
and resulting off-balance sheet risk is discussed further in Note 5 to the consolidated financial statements.

Capital Management

During 2007, Stockholders Equity increased by $2.7 million or 11.3% to $26.9 million from $24.1 million at December 31, 2006. The increase was primarily due to
net income of $2.4 million and an increase in paid in capital of $96 thousand due to options exercised and expensed, and improvement in accumulated other comprehensive income of $1.0 million offset by the repurchase of 99,172 common shares for a
total of $817 thousand.



16



---

On March 16, 2007 the Board of Directors approved a new Employee Stock Purchase Plan subject to shareholder
approval. Under the plan, which was effective July 1, 2007, eligible employees are able to purchase shares of the Companys common stock through payroll deductions. Shares have a price equal to 95% of the fair market value
on the purchase date (and could be as low as 85% per Code Section 423 rules). During 2007 708 shares of common stock were purchased through the Employee Stock Purchase Plan.

The Company currently has three stock incentive plans. In April 1997, the Companys 1997 Employee Incentive Stock Option Plan was approved by shareholders at the
annual meeting. Under the 1997 plan, up to 177,777 shares of the Companys common stock could be awarded under the direction of the Companys Compensation Committee. Incentive stock options vest over a five year period. No additional
awards may be made from this plan. During April 2000, the Companys 2000 stock incentive plan was approved by shareholders at the annual meeting. Under the plan, up to 355,554 shares of the Companys common stock could be awarded under the
direction of the Companys Compensation Committee. Incentive stock options and grants vest over a five-year period. No additional awards may be made from this plan. In May 2006, a new Company stock incentive plan was approved by shareholders at
the annual meeting. Under the plan, up to 200,000 shares of the Companys common stock may be awarded under the direction of the Companys Compensation Committee. The Compensation Committee may in its discretion grant the following types
of awards: options, share appreciation rights, restricted shares, deferred shares and performance awards. During 2007 34,704 shares of which 15,862 shares were in the form options that vest over a period of five years, 5,842 restricted shares that
vested on December 31, 2007 and 13,000 restricted shares that vest over a period of two to five years, were granted under the terms of the plan. During 2007 14,419 shares granted in prior years were forfeited and 11,499 shares were exercised.
At December 31, 2007, the Company had a total of 258,108 options granted and outstanding. See Note 14 to the Consolidated Financial Statements for more information on the Companys stock option plans.

A table of the Equity Compensation Plan Information is shown below:



|                                                           |  |                                                                                              |  |                                                                              |      |                                                                                                                                           |        
|---------------------------------------------------------- |  | -------------------------------------------------------------------------------------------- |  | ---------------------------------------------------------------------------- | ---- | ----------------------------------------------------------------------------------------------------------------------------------------- | -------
|Plan Category                                              |  | Number of securities to be issuedupon exercise of outstandingoptions, warrants and
rights(a) |  | Weighted average exerciseprice of outstanding options,warrants and
rights(b) |      | Number of securities remainingavailable for future issuance underequity compensation plans excludingsecurities reflected in column (a)(c)
|Equity compensation plans approved by security holders     |  | 258,108                                                                                      |  | $                                                                            | 4.89 |                                                                                                                                           | 165,827
|Equity compensation plans not approved by security holders |  |                                                                                             |  |                                                                              |     |                                                                                                                                           |       
|                                                           |  |                                                                                              |  |                                                                              |      |                                                                                                                                           |        
|Total                                                      |  | 258,108                                                                                      |  | $                                                                            | 4.89 |                                                                                                                                           | 165,827
|                                                           |  |                                                                                              |  |                                                                              |      |                                                                                                                                           |        

Regulatory Capital Requirements

The Federal Reserves capital regulations require state member banks to meet two minimum capital standards: a 4% Tier 1 capital to total adjusted assets ratio (the leverage ratio), and an 8%
risk-based capital ratio. Tier 1 capital is defined as common stockholders equity (including retained earnings), certain non-cumulative perpetual preferred stock and related paid in capital, and minority interests in equity accounts of
consolidated subsidiaries, less intangibles other than certain mortgage servicing rights and credit card relationships.

The risk-based capital standard
requires the maintenance of Tier 1 and Total capital (which is defined as Tier 1 capital plus Tier 2 capital) to risk-weighted assets of at least 4% and 8%, respectively. In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100%, as assigned by the Federal Reserve capital regulations based on the risks the agency believes are inherent in the type of asset. The regulators have recently
added a market risk adjustment to cover a banks trading account, and foreign exchange and commodity positions. The components of Tier 1 capital are equivalent to those discussed above. Tier 2 capital may include cumulative preferred stock,
long-term perpetual preferred stock, mandatory convertible securities, subordinated debt, intermediate preferred stock, and the allowance for credit losses limited to a maximum of 1.25% of risk-weighted assets. Overall, the amount of Tier 2 capital
included as part of total capital cannot exceed 100% of Tier 1 capital.

Trust preferred securities are considered regulatory capital for purposes of
determining the Companys Tier 1 capital ratios. Designation as a well-capitalized institution under these regulations is not a recommendation or endorsement of the Company or the Bank by federal bank regulators.

At December 31, 2007, both the Companys and the Banks Tier 1 and Total Risk-based capital ratios were 12.5% and 13.4%, respectively. The Bank was
considered well capitalized for regulatory purposes. See Note 19 of the Consolidated Financial Statements for more information on the Banks risk-based capital ratios.



17



---

Regulation and Supervision

The Company, by virtue of its control of the Bank, is a registered bank holding company as amended under the Bank Holding Company Act of 1956 (the Act). As a bank holding company, the Company is required to file certain reports
with, and otherwise comply with the rules and regulations of, the Federal Reserve Board (FRB) under the Act.

Effective November 1, 2000,
the Company changed the Bank charter from a national charter to a state charter. As a result, the Bank is now regulated by the State of Maryland Department of Labor, Licensing and Regulation. The Bank is subject to extensive regulation, examination
and supervision by the State of Maryland as its primary regulator, the Federal Reserve Bank of Richmond as its secondary regulator and the FDIC, as the deposit insurer. The Banks deposit accounts are insured up to applicable limits by the
FDICs Bank Insurance Fund (BIF). The Bank must file reports with the Federal Reserve and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain
transactions such as mergers with, or acquisitions of other institutions. The state and the Federal Reserve conduct periodic examinations to test the Banks safety and soundness and compliance with various regulatory requirements. Many aspects
of the Banks operations are regulated by federal law including allowable activities, reserves against deposits, branching, mergers and investments. This regulation and supervision establishes a comprehensive framework of activities in which an
institution can engage and is intended primarily for the protection of the insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement
activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such regulatory requirements and policies, whether by
the State of Maryland, the Federal Reserve, the FDIC or Congress, could have a material adverse impact on the Company or the Bank and their operations.

On
July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley). Sarbanes-Oxley represents a comprehensive revision of laws affecting corporate governance, accounting obligations and corporate
reporting. It is applicable to all companies with equity or debt securities registered under the Securities Exchange Act of 1934. The provisions of Sarbanes-Oxley took effect upon passage and are subject to rulemaking by the Securities and Exchange
Commission and the self-regulatory organizations. The regulation:



| |  | Require CEOs and CFOs to certify their companys financial reports, filings and control systems;
|- |  | ------------------------------------------------------------------------------------------------



| |  | Require increased disclosure and reporting obligations for the company, its officers and directors, and its affiliates;
|- |  | -----------------------------------------------------------------------------------------------------------------------



| |  | Require that the company comply with new audit committee independence and auditor independence requirements; and
|- |  | ----------------------------------------------------------------------------------------------------------------



| |  | Implement new corporate responsibility requirements and provide additional corporate and criminal fraud accountability.
|- |  | -----------------------------------------------------------------------------------------------------------------------

The Company is continuing to monitor the passage of the new and amended regulations and is taking appropriate measures to comply with them. Although the Company has
incurred additional expense in complying with the various provisions of Sarbanes-Oxley and the new and amended regulations, such compliance has not had a material impact on the Companys results of operations or financial condition.

Market Value and Dividend Information

The Companys common stock is listed on The NASDAQ Stock Market® under the symbol ANNB. The Companys stock began trading on
October 1, 1997. At December 31, 2007 the closing price was $7.63 per share.

As of March 1, 2008 the Company has outstanding 4,015,254
shares of common stock held by approximately 207 shareholders of record and no preferred stock issued or outstanding. The Company paid dividends for the first time to its stockholders during 1999.

The Company has no current plans to resume payments of cash dividends. Management believes it is in the best interest of the Company to retain capital to support the
growth of the Company.



|        |  |                   |       |                   |   |                   |      |                   |        |  |   |       |  |   |      |  |   |       
|------- |  | ----------------- | ----- | ----------------- | - | ----------------- | ---- | ----------------- | ------ |  | - | ----- |  | - | ---- |  | - | ------
|        |  | 2007              |       | 2006             
|        |  | Stock Price Range |       | Per ShareDividend |   | Stock Price Range |      | Per ShareDividend
|Quarter |  | High              |       | Low               |   |                   | High |                   | Low    | 
|1st     |  | $                 | 10.00 |                   | $ | 9.05              |      | $                 | 0.0000 |  | $ | 10.00 |  | $ | 8.98 |  | $ | 0.0000
|2nd     |  |                   | 9.75  |                   |   | 8.63              |      |                   | 0.0000 |  |   | 9.86  |  |   | 8.65 |  |   | 0.0000
|3rd     |  |                   | 9.41  |                   |   | 7.60              |      |                   | 0.0000 |  |   | 9.50  |  |   | 8.95 |  |   | 0.0000
|4th     |  |                   | 8.27  |                   |   | 6.85              |      |                   | 0.0000 |  |   | 9.52  |  |   | 9.00 |  |   | 0.0000



18



---

MANAGEMENTS REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

Managements Report

We prepared and are responsible for the
financial statements that appear in our 2007 Financial Report. These financial statements are in conformity with accounting principles generally accepted in the United States of America and, therefore, include amounts based on informed judgments and
estimates. We also accept responsibility for the preparation of other financial information that is included in this document.

Report on Internal
Control Over Financial Reporting

The management of the Company is responsible for establishing and maintaining adequate internal control over financial
reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Companys internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America. The Companys internal control over financial reporting includes those
policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations
of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Companys assets that could have a material effect on the
financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Companys internal control over financial reporting as of December 31, 2007. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the
Treadway Commission in Internal Control-Integrated Framework. Based on this assessment management believes that the Company maintained effective internal control over financial reporting as of December 31, 2007.

This annual report does not include an attestation report of the Companys registered public accounting firm regarding internal control over financial reporting.
Managements report was not subject to attestation by the Companys registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only managements reporting
in this annual report.



|                                          
|------------------------------------------
|/s/ Richard M. Lerner                     
|Richard M. Lerner                         
|Chairman and Chief Executive Officer      
|                                          
|/s/ Margaret Theiss Faison                
|Margaret Theiss Faison                    
|Principal Financial and Accounting Officer
|                                          
|March 19, 2008                            



19



---

ANNAPOLIS BANCORP, INC.

Report of Independent Registered Public Accounting Firm

Board of Directors and Stockholders

Annapolis Bancorp, Inc. and Subsidiaries

We have audited
the accompanying consolidated balance sheets of Annapolis Bancorp, Inc. and Subsidiaries (the Company) as of December 31, 2007 and 2006 and the related consolidated statements of income, changes in stockholders equity, and
cash flows for each of the three years in the period ending December 31, 2007. These consolidated financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we
engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the Companys internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material
respects, the financial position of Annapolis Bancorp, Inc. and Subsidiaries as of December 31, 2007 and 2006 and the results of their operations and their cash flows for each of the three years in the period ending December 31, 2007 in
conformity with accounting principles generally accepted in the United States of America.

/s/ Stegman & Company

Baltimore, Maryland

March 19, 2008



20



---

ANNAPOLIS BANCORP, INC.

Consolidated Balance Sheets ($000)



|                                                                                                                                                    |  |      |         |   |      |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | -
|December 31,                                                                                                                                        |  | 2007 |         |   | 2006 |  
|Assets                                                                                                                                              |  |      |         |   |      |   |         |  
|Cash and due from banks                                                                                                                             |  | $    | 5,411   |   |      | $ | 5,705   |  
|Interest bearing balances with banks                                                                                                                |  |      | 11,500  |   |      |   |        |  
|Federal funds sold                                                                                                                                  |  |      | 1,588   |   |      |   | 30,367  |  
|Investment securities available for sale                                                                                                            |  |      | 83,123  |   |      |   | 79,657  |  
|Loans, less allowance for credit losses of $2,283 and $1,976                                                                                        |  |      | 243,905 |   |      |   | 219,794 |  
|Premises and equipment, net                                                                                                                         |  |      | 9,179   |   |      |   | 9,173   |  
|Accrued interest receivable                                                                                                                         |  |      | 1,794   |   |      |   | 1,660   |  
|Deferred income taxes                                                                                                                               |  |      | 836     |   |      |   | 1,201   |  
|Investment in bank owned life insurance                                                                                                             |  |      | 3,927   |   |      |   | 3,775   |  
|Other assets                                                                                                                                        |  |      | 616     |   |      |   | 529     |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|Total assets                                                                                                                                        |  | $    | 361,879 |   |      | $ | 351,861 |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|                                                                                                                                                    |  |     
|Liabilities and Stockholders Equity                                                                                                                |  |      |         |   |      |   |         |  
|Deposits                                                                                                                                            |  |      |         |   |      |   |         |  
|Noninterest bearing                                                                                                                                 |  | $    | 38,075  |   |      | $ | 42,218  |  
|Interest bearing                                                                                                                                    |  |      | 253,514 |   |      |   | 231,957 |  
|Securities sold under agreements to repurchase                                                                                                      |  |      | 13,337  |   |      |   | 17,734  |  
|Short-term borrowings                                                                                                                               |  |      | 4,170   |   |      |   |        |  
|Long-term borrowings                                                                                                                                |  |      | 20,000  |   |      |   | 30,000  |  
|Guaranteed preferred beneficial interests in junior subordinated debentures                                                                         |  |      | 5,000   |   |      |   | 5,000   |  
|Accrued interest payable and other liabilities                                                                                                      |  |      | 931     |   |      |   | 831     |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|Total liabilities                                                                                                                                   |  |      | 335,027 |   |      |   | 327,740 |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|                                                                                                                                                    |  |     
|Stockholders Equity                                                                                                                                |  |      |         |   |      |   |         |  
|Common stock, par value $0.01 per share; authorized 10,000,000 shares; issued and outstanding 4,014,928 shares in 2007 and 4,101,893 shares in
2006 |  |      | 40      |   |      |   | 41      |  
|Paid in capital                                                                                                                                     |  |      | 12,589  |   |      |   | 13,309  |  
|Retained earnings                                                                                                                                   |  |      | 14,233  |   |      |   | 11,809  |  
|Accumulated other comprehensive (loss)                                                                                                              |  |      | (10     | ) |      |   | (1,038  | )
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|Total stockholders equity                                                                                                                          |  |      | 26,852  |   |      |   | 24,121  |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  
|Total liabilities and stockholders equity                                                                                                          |  | $    | 361,879 |   |      | $ | 351,861 |  
|                                                                                                                                                    |  |      |         |   |      |   |         |  

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



21



---

ANNAPOLIS BANCORP, INC.

Consolidated Statements of Income ($000 except per share data)



|                                                                           |  |      |        |      |   |        |      |  |   |       
|-------------------------------------------------------------------------- |  | ---- | ------ | ---- | - | ------ | ---- |  | - | ------
|Years Ended December 31,                                                   |  | 2007 |        | 2006 |   |        | 2005
|Interest Income                                                            |  |      |        |      |   |        |      |  |   |       
|Loans, including fees                                                      |  | $    | 17,773 |      | $ | 16,009 |      |  | $ | 14,086
|Interest bearing balances with banks                                       |  |      | 29     |      |   |       |      |  |   |      
|Federal funds sold                                                         |  |      | 879    |      |   | 708    |      |  |   | 572   
|Mortgage-backed securities                                                 |  |      | 1,191  |      |   | 1,211  |      |  |   | 899   
|U.S. Treasury securities and obligations of other U.S. Government agencies |  |      | 2,426  |      |   | 1,781  |      |  |   | 1,452 
|State and Municipal Securities                                             |  |      | 36     |      |   | 13     |      |  |   |      
|Equity Securities                                                          |  |      | 132    |      |   | 124    |      |  |   | 95    
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Total interest income                                                      |  |      | 22,466 |      |   | 19,846 |      |  |   | 17,104
|                                                                           |  |      |        |      |   |        |      |  |   |       
|                                                                           |  |      |       
|Interest Expense                                                           |  |      |        |      |   |        |      |  |   |       
|Certificates of deposit, $100,000 or more                                  |  |      | 2,079  |      |   | 1,480  |      |  |   | 1,215 
|Other deposits                                                             |  |      | 6,891  |      |   | 4,776  |      |  |   | 3,007 
|Securities sold under agreements to repurchase                             |  |      | 613    |      |   | 522    |      |  |   | 290   
|Interest on short-term borrowings                                          |  |      | 1      |      |   |       |      |  |   |      
|Interest on long-term borrowings                                           |  |      | 1,032  |      |   | 1,256  |      |  |   | 1,121 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Total interest expense                                                     |  |      | 10,616 |      |   | 8,034  |      |  |   | 5,633 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Net interest income                                                        |  |      | 11,850 |      |   | 11,812 |      |  |   | 11,471
|Provision for Credit Losses                                                |  |      | 448    |      |   | 12     |      |  |   | 442   
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Net interest income after provision for credit losses                      |  |      | 11,402 |      |   | 11,800 |      |  |   | 11,029
|                                                                           |  |      |        |      |   |        |      |  |   |       
|                                                                           |  |      |       
|Noninterest Income                                                         |  |      |        |      |   |        |      |  |   |       
|Service charges and fees on deposits                                       |  |      | 1,257  |      |   | 1,176  |      |  |   | 1,207 
|Mortgage banking fees                                                      |  |      | 54     |      |   | 166    |      |  |   | 329   
|Rental income                                                              |  |      | 186    |      |   | 180    |      |  |   | 178   
|Other income                                                               |  |      | 334    |      |   | 351    |      |  |   | 496   
|Net loss on sale of securities available for sale                          |  |      |       |      |   | (23    | )    |  |   |      
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Total noninterest income                                                   |  |      | 1,831  |      |   | 1,850  |      |  |   | 2,210 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|                                                                           |  |      |       
|Noninterest Expense                                                        |  |      |        |      |   |        |      |  |   |       
|Personnel                                                                  |  |      | 5,514  |      |   | 5,130  |      |  |   | 4,807 
|Occupancy and equipment                                                    |  |      | 1,233  |      |   | 1,160  |      |  |   | 1,105 
|Data processing                                                            |  |      | 792    |      |   | 812    |      |  |   | 903   
|Marketing and advertising                                                  |  |      | 382    |      |   | 448    |      |  |   | 398   
|Professional Fees                                                          |  |      | 280    |      |   | 195    |      |  |   | 265   
|Other operating                                                            |  |      | 1,289  |      |   | 1,214  |      |  |   | 1,144 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Total noninterest expense                                                  |  |      | 9,490  |      |   | 8,959  |      |  |   | 8,622 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|                                                                           |  |      |       
|Income Before Income Taxes                                                 |  |      | 3,743  |      |   | 4,691  |      |  |   | 4,617 
|Income Tax Expense                                                         |  |      | 1,319  |      |   | 1,740  |      |  |   | 1,636 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|Net Income                                                                 |  | $    | 2,424  |      | $ | 2,951  |      |  | $ | 2,981 
|                                                                           |  |      |        |      |   |        |      |  |   |       
|                                                                           |  |      |       
|Basic Earnings per Share                                                   |  | $    | 0.60   |      | $ | 0.72   |      |  | $ | 0.73  
|Diluted Earnings per Share                                                 |  | $    | 0.58   |      | $ | 0.70   |      |  | $ | 0.71  

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



22



---

ANNAPOLIS BANCORP, INC.

Consolidated Statements of Changes in Stockholders Equity and Comprehensive Income ($000)

For the years ended December 31, 2007,
2006 and 2005



|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|------------------------------------------------------------------------------- | ------ | ------------ | - | -------- | -------------- | -- | - | ---------------- | - | ------------------------------------------ | - |  | ------------------------ | ------ |  | ------------------- | ------ | - |  | - | ------ | - |  | - | ----- | -
|                                                                                |        | Common Stock |   |          | Paid inCapital |    |   | RetainedEarnings |   | AccumulatedOtherComprehensiveIncome (Loss) |   |  | TotalStockholdersEquity |        |  | ComprehensiveIncome |       
|                                                                                | Shares |              |   | ParValue |                |    |   |                  |   |                                           
|BALANCE JANUARY 1, 2005                                                         |        | 4,050,480    |   |          | $              | 41 |   |                  | $ | 12,986                                     |   |  | $                        | 5,877  |  | $                   | (242   | ) |  | $ | 18,662 |   |  |   |       |  
|Net income                                                                      |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          | 2,981  |  |                     |       |   |  |   | 2,981  |   |  | $ | 2,981 |  
|Stock-based compensation                                                        |        |             |   |          |                |   |   |                  |   | 123                                        |   |  |                          |       |  |                     |       |   |  |   | 123    |   |  |   |       |  
|Stock options exercised                                                         |        | 19,387       |   |          |                |   |   |                  |   | 55                                         |   |  |                          |       |  |                     |       |   |  |   | 55     |   |  |   |       |  
|Issuance of restricted stock                                                    |        | 2,933        |   |          |                |   |   |                  |   | 7                                          |   |  |                          |       |  |                     |       |   |  |   | 7      |   |  |   |       |  
|Unrealized loss on investment securities available for sale net of income taxes |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          |       |  |                     | (869   | ) |  |   | (869   | ) |  |   | (869  | )
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|BALANCE DECEMBER 31, 2005                                                       |        | 4,072,800    |   |          |                | 41 |   |                  |   | 13,171                                     |   |  |                          | 8,858  |  |                     | (1,111 | ) |  |   | 20,959 |   |  | $ | 2,112 |  
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|Net income                                                                      |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          | 2,951  |  |                     |       |   |  |   | 2,951  |   |  |   | 2,951 |  
|Stock-based compensation                                                        |        |             |   |          |                |   |   |                  |   | 37                                         |   |  |                          |       |  |                     |       |   |  |   | 37     |   |  |   |       |  
|Stock options exercised                                                         |        | 29,093       |   |          |                |   |   |                  |   | 101                                        |   |  |                          |       |  |                     |       |   |  |   | 101    |   |  |   |       |  
|Unrealized gain on investment securities available for sale net of income taxes |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          |       |  |                     | 73     |   |  |   | 73     |   |  |   | 73    |  
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|BALANCE DECEMBER 31, 2006                                                       |        | 4,101,893    |   |          |                | 41 |   |                  |   | 13,309                                     |   |  |                          | 11,809 |  |                     | (1,038 | ) |  |   | 24,121 |   |  | $ | 3,024 |  
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|Net income                                                                      |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          | 2,424  |  |                     |       |   |  |   | 2,424  |   |  |   | 2,424 |  
|Stock-based compensation                                                        |        |             |   |          |                |   |   |                  |   | 70                                         |   |  |                          |       |  |                     |       |   |  |   | 70     |   |  |   |       |  
|Stock options exercised                                                         |        | 6,188        |   |          |                |   |   |                  |   | 21                                         |   |  |                          |       |  |                     |       |   |  |   | 21     |   |  |   |       |  
|Issuance of restricted stock                                                    |        | 5,311        |   |          |                |   |   |                  |   |                                           |   |  |                          |       |  |                     |       |   |  |   |       |   |  |   |       |  
|Employee stock purchase plan                                                    |        | 708          |   |          |                |   |   |                  |   | 5                                          |   |  |                          |       |  |                     |       |   |  |   | 5      |   |  |   |       |  
|Stock repurchased                                                               |        | (99,172      | ) |          |                | (1 | ) |                  |   | (816                                       | ) |  |                          |       |  |                     |       |   |  |   | (817   | ) |  |   |       |  
|Unrealized gain on investment securities available for sale net of income taxes |        |             |   |          |                |   |   |                  |   |                                           |   |  |                          |       |  |                     | 1,028  |   |  |   | 1,028  |   |  |   | 1,028 |  
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  
|BALANCE DECEMBER 31, 2007                                                       |        | 4,014,928    |   |          | $              | 40 |   |                  | $ | 12,589                                     |   |  | $                        | 14,233 |  | $                   | (10    | ) |  | $ | 26,852 |   |  | $ | 3,452 |  
|                                                                                |        |              |   |          |                |    |   |                  |   |                                            |   |  |                          |        |  |                     |        |   |  |   |        |   |  |   |       |  

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



23



---

ANNAPOLIS BANCORP, INC.

Consolidated Statements of Cash Flows ($000)



|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|--------------------------------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | -
|Years Ended December 31,                                                          |  | 2007 |         |   | 2006 |   |         | 2005 | 
|Cash Flows from Operating Activities                                              |  |      |         |   |      |   |         |      |  |   |         |  
|Net income                                                                        |  | $    | 2,424   |   |      | $ | 2,951   |      |  | $ | 2,981   |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |      |         |   |      |   |         |      |  |   |         |  
|Depreciation and amortization                                                     |  |      | 508     |   |      |   | 477     |      |  |   | 454     |  
|Provision for credit losses                                                       |  |      | 448     |   |      |   | 12      |      |  |   | 442     |  
|Stock-based compensation                                                          |  |      | 70      |   |      |   | 37      |      |  |   | 123     |  
|Deferred income taxes                                                             |  |      | (268    | ) |      |   | 1       |      |  |   | (190    | )
|Earnings on life insurance policies                                               |  |      | (152    | ) |      |   | (137    | )    |  |   | (128    | )
|Amortization of premiums and accretion of discounts, net                          |  |      | 32      |   |      |   | 19      |      |  |   | 47      |  
|Loss on sale of securities                                                        |  |      |        |   |      |   | 23      |      |  |   |        |  
|(Increase) decrease in:                                                           |  |      |         |   |      |   |         |      |  |   |         |  
|Accrued interest receivable                                                       |  |      | (134    | ) |      |   | (237    | )    |  |   | (362    | )
|Repossessed assets                                                                |  |      | (77     | ) |      |   | (60     | )    |  |   |        |  
|Other assets                                                                      |  |      | (14     | ) |      |   | 95      |      |  |   | (2      | )
|Increase (decrease) in                                                            |  |      |         |   |      |   |         |      |  |   |         |  
|Accrued interest payable                                                          |  |      | 47      |   |      |   | 116     |      |  |   | (44     | )
|Accrued income taxes, net of taxes refundable                                     |  |      | (125    | ) |      |   | (271    | )    |  |   | 352     |  
|Deferred loan origination fees                                                    |  |      | (161    | ) |      |   | (21     | )    |  |   | 92      |  
|Other liabilities                                                                 |  |      | 283     |   |      |   | (36     | )    |  |   | (84     | )
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|Net cash provided by operations                                                   |  |      | 2,881   |   |      |   | 2,969   |      |  |   | 3,681   |  
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|                                                                                  |  |      |        
|Cash Flows from Investing Activities                                              |  |      |         |   |      |   |         |      |  |   |         |  
|Proceeds from sales and maturities of securities available for sale               |  |      | 17,339  |   |      |   | 2,977   |      |  |   | 5,763   |  
|Purchase of securities available for sale                                         |  |      | (19,281 | ) |      |   | (8,663  | )    |  |   | (26,589 | )
|Net decrease (increase) in federal funds sold                                     |  |      | 28,779  |   |      |   | (26,967 | )    |  |   | 3,813   |  
|Purchase of interest bearing certificates of deposit                              |  |      | (11,500 | ) |      |   |        |      |  |   |        |  
|Net increase in loans receivable                                                  |  |      | (24,398 | ) |      |   | (17,217 | )    |  |   | (806    | )
|Purchases of premises and equipment                                               |  |      | (510    | ) |      |   | (1,072  | )    |  |   | (1,976  | )
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|Net cash used in investing activities                                             |  |      | (9,571  | ) |      |   | (50,942 | )    |  |   | (19,795 | )
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|                                                                                  |  |      |        
|Cash Flows from Financing Activities                                              |  |      |         |   |      |   |         |      |  |   |         |  
|Net increase (decrease) in:                                                       |  |      |         |   |      |   |         |      |  |   |         |  
|Time deposits                                                                     |  |      | (7,351  | ) |      |   | 10,077  |      |  |   | 705     |  
|Other deposits                                                                    |  |      | 24,765  |   |      |   | 14,149  |      |  |   | 22,410  |  
|Securities sold under agreements to repurchase                                    |  |      | (4,397  | ) |      |   | 4,748   |      |  |   | 5,085   |  
|Short-term borrowings                                                             |  |      | 4,170   |   |      |   |        |      |  |   |        |  
|Proceeds from long-term borrowings                                                |  |      | 15,000  |   |      |   | 20,000  |      |  |   |         |  
|Maturities or repayment of long-term borrowings                                   |  |      | (25,000 | ) |      |   | (5,000  | )    |  |   | (10,000 | )
|Proceeds from stock options exercised                                             |  |      | 21      |   |      |   | 101     |      |  |   | 62      |  
|Proceeds from issuance of common stock                                            |  |      | 5       |   |      |   |        |      |  |   |        |  
|Stock repurchased                                                                 |  |      | (817    | ) |      |   |        |      |  |   |        |  
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|Net cash provided by financing activities                                         |  |      | 6,396   |   |      |   | 44,075  |      |  |   | 18,262  |  
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|Net (decrease) increase in cash and cash equivalents                              |  |      | (294    | ) |      |   | (3,898  | )    |  |   | 2,148   |  
|Cash and cash equivalents at beginning of year                                    |  |      | 5,705   |   |      |   | 9,603   |      |  |   | 7,455   |  
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|Cash and cash equivalents at end of year                                          |  | $    | 5,411   |   |      | $ | 5,705   |      |  | $ | 9,603   |  
|                                                                                  |  |      |         |   |      |   |         |      |  |   |         |  
|                                                                                  |  |      |        
|Supplemental Cash Flow Information                                                |  |      |         |   |      |   |         |      |  |   |         |  
|Interest paid, including interest credited to accounts                            |  | $    | 10,569  |   |      | $ | 7,918   |      |  | $ | 5,675   |  
|Income taxes paid                                                                 |  |      | 1,724   |   |      |   | 2,131   |      |  |   | 1,624   |  

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



24



---

ANNAPOLIS BANCORP, INC.

Notes to Consolidated Financial Statements ($000 except share data)

For the years ended December 31, 2007, 2006 and 2005

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The
accounting and reporting policies in the consolidated financial statements conform with accounting principles generally accepted in the United States of America and to general practices within the banking industry. Management makes estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. These estimates and assumptions may affect the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from these estimates. Certain reclassifications have been made to the 2006 and 2005 consolidated financial statements to conform with the 2007 presentation.

Business

Annapolis Bancorp, Inc. (the
Company) was incorporated on May 26, 1988, under the laws of the State of Maryland to serve as a bank holding company. The Company, registered as a bank holding company, formed Annapolis National Bank (the Bank), a
nationally chartered financial institution. Effective June 1, 2001 the Company changed its name to Annapolis Bancorp, Inc. Effective November 1, 2000 the Bank changed its charter from a national charter to a state charter and joined the
State of Maryland and the Federal Reserve banking systems. Also effective November 1, 2000 the Bank changed its name from Annapolis National Bank to BankAnnapolis. The Company (as a bank holding company) and the Bank are subject to governmental
supervision, regulation, and control.

The principal business of BankAnnapolis is to make loans and other investments and to accept time
and demand deposits. The Banks primary market area is in Anne Arundel County, Maryland, although the Banks business development efforts generate business outside of the area. The Bank offers a broad range of banking products, including a
full line of business and personal savings and checking accounts, money market demand accounts, certificates of deposit and other banking services.

The Bank funds a variety of loan types including commercial and residential real estate loans, commercial term loans and lines of credit, consumer loans, and letters of credit. The Banks customers are primarily individuals and small
businesses.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, BankAnnapolis and Annapolis Bancorp Statutory Trust I. All significant intercompany balances and transactions have been eliminated
in consolidation. The financial statements of Annapolis Bancorp, Inc. (Parent only) include its investment in the Bank under the equity method of accounting.

Cash Equivalents

For purposes of reporting cash flows, cash and demand balances due from banks are considered cash
equivalents for financial reporting purposes.

Investment Securities

As securities are purchased, management determines if the securities should be classified as held to maturity or available for sale. Securities which
management has the intent and ability to hold to maturity are recorded at amortized cost. Securities which may be sold before maturity are classified as available for sale and carried at fair value with unrealized gains and losses included in
accumulated other comprehensive income, a separate component of stockholders equity, on an after-tax basis. Investments in Federal Home Loan Bank and Federal Reserve stock are included with securities classified as available for sale and
carried at cost.

Declines in the fair value of individual available for sale or held to maturity securities below their cost that are
other than temporary result in write-downs of the individual securities to their fair value. Factors affecting the determination of whether an other-than-temporary impairment has occurred include a downgrading of the security by the rating agency, a
significant deterioration in the financial condition of the issuer, or that management would not have the ability to hold a security for a period of time sufficient to allow for any anticipated recovery in fair value.

Premises and Equipment

Premises and equipment are
stated at cost less accumulated depreciation and amortization. Depreciation and amortization are calculated using the straight-line method over the estimated useful lives of the assets. Useful lives range from three to 10 years for furniture,
fixtures, and equipment; three to five years for software, hardware, and data handling equipment; and 10 to 40 years for buildings and building improvements. Land improvements are amortized over a period of 15 years; and leasehold improvements are
amortized over the term of the respective lease plus the first optional renewal period, if applicable. Maintenance and repairs are charged to expense as incurred, while improvements which extend the useful life are capitalized and depreciated over
the estimated remaining life of the asset.



25



---

Loans

Loans are stated at their principal balance outstanding, plus deferred origination costs, less unearned discounts, deferred origination fees, and the allowance for credit losses.

Interest on loans is credited to income based on the principal amounts outstanding. Origination fees and costs are amortized to income over the
contractual life of the related loans as an adjustment of yield. Discounts on the purchase of mortgage loans are amortized to income over the contractual lives of the loans.

Accrual of interest on a loan is discontinued when the loan is delinquent more than ninety days unless the collateral securing the loan is sufficient to
liquidate the loan. Management considers all loans where the accrual of interest has been discontinued to be impaired.

Loans are
considered impaired when, based on current information, it is probable that the Bank will not collect all principal and interest payments according to contractual terms. Generally, loans are considered impaired once principal and interest payments
are past due and they are placed on non-accrual. Management also considers the financial condition of the borrower, cash flows of the loan and the value of the related collateral. Impaired loans do not include large groups of smaller balance
homogeneous credits such as residential real estate and consumer installment loans, which are evaluated collectively for impairment. Loans specifically reviewed for impairment are not considered impaired during periods of minimal delay
in payment (usually ninety days or less) provided eventual collection of all amounts due is expected. Impaired loans are measured based on the present value of expected future cash flows discounted at the loans effective interest rate, except
that as a practical expedient, the Bank may measure impairment based on a loans observable market price or the fair value of the collateral, if the loan is collateral dependent. The Bank recognizes interest income on impaired loans on a cash
basis if the borrower demonstrates the ability to meet the contractual obligation and collateral is sufficient. If there is doubt regarding the borrowers ability to make payments or the collateral is not sufficient, payments received are
accounted for as a reduction in principal. Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured.

Allowance for Credit Losses

The allowance for credit
losses is maintained at a level believed adequate by management to absorb probable losses inherent in the loan portfolio and is based on the size and current risk characteristics of the loan portfolio, an assessment of individual problem loans,
actual loss experience, current economic events in specific industries and geographic areas including unemployment levels and other pertinent factors including regulatory guidance and general economic conditions. Determination of the allowance is
inherently subjective as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogenous loans based on historical loss experience and consideration of
economic trends, all of which may be susceptible to significant change. Credit losses are charged off against the allowance, while recoveries of amounts previously charged off are credited to the allowance. A provision for credit losses is charged
to operations based on managements periodic evaluation of the factors previously mentioned, as well as other pertinent factors. Evaluations are conducted at least quarterly and more often if deemed necessary.

The allowance for credit losses consists of a specific component and a nonspecific component. The components of the allowance for credit losses represent
an estimation done pursuant to either Statement of Financial Accounting Standards (SFAS) No. 5 Accounting for Contingencies, or SFAS No. 114 Accounting by Creditors for Impairment of a Loan. The specific
component of the allowance for credit losses reflects expected losses resulting from analysis developed through credit allocations for individual loans and historical loss experience for each loan category. The credit allocations are based on a
regular analysis of all loans over a fixed-dollar amount where the internal credit rating is at or below a predetermined classification. The historical loan loss element is determined statistically using a loss migration analysis that examines loss
experience and the related internal gradings of loans charged off. The calculation of the allowance is based, in part, upon historical loss factors, as adjusted, for the major loan categories based upon adjusted historical loss experience over the
prior eight quarters. The factors used to adjust the historical loss experience address various risk characteristics of the Banks loan portfolio including (1) trends in delinquencies and other nonperforming loans, (2) results of
independent loan reviews, (3) changes in the categories of loans comprising the loan portfolio, (4) concentrations of loans to specific industry segments, (5) changes in economic conditions on both a local and national level,
(6) changes in the Banks credit administration and loan portfolio management processes, (7) changes in the experience, ability and depth of lending management and staff, (8) the effect of the recent decline in local real estate
values on the level of potential credit losses in the Banks portfolio and (9) the impact of unresolved collateral and documentation exceptions on the potential credit losses in the Banks portfolio.

The nonspecific portion of the allowance is determined based on managements assessment of general economic conditions, as well as economic factors
in the individual markets in which BankAnnapolis operates including the strength and timing of economic cycles and concerns over the effects of a prolonged economic downturn in the current cycle. This determination inherently involves a higher risk
of uncertainty and considers current risk factors that may not have yet manifested themselves in the Banks historical loss factors used to determine the specific component of the allowance and it recognizes knowledge of the portfolio may be
incomplete.



26



---

Real Estate Owned

Real estate acquired in satisfaction of a debt is carried at the lower of cost or net realizable value. Costs incurred in maintaining foreclosed real estate and write-downs to reflect declines in the fair value of the
properties after acquisition are included in noninterest expenses.

Advertising Costs

Advertising costs are generally expensed when incurred.

Income Taxes

The Company and its subsidiaries file a consolidated federal income tax return. The provision for income taxes
is based upon income in the financial statements adjusted for permanent differences, rather than amounts reported on the Companys income tax return. The Company recognizes interest and/or penalties related to income tax matters in income tax
expense.

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date.

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

Earnings per Share

Basic
earnings per common share is determined by dividing net income by the weighted average number of shares of common stock outstanding during the year. Diluted earnings per common share is calculated by including the average dilutive common stock
equivalents outstanding during the period.

Dilutive common equivalent shares consist of stock options, calculated using the treasury stock
method.

Stock-Based Compensation

During 2005 the Company adopted the prospective method of recognizing stock-based compensation provided by SFAS No. 148. Accordingly, expense is recognized for all employee awards granted, modified or settled after the beginning of
2005. Option awards granted in 2005 did not vest until 2006.

During 2006 the Company adopted the provisions of SFAS 123R which required
the recognition of stock-based compensation expense equal to the amortization (over the remaining service period) of the fair value (computed at the date of award grant) of any outstanding stock award grants which vest subsequent to
December 31, 2005. Refer to Note 14 for a description of stock-based compensation expense for the years ended December 31, 2007 and 2006.

New
Accounting Pronouncements

Statements of Financial Accounting Standards

SFAS No. 155, Accounting for Certain Hybrid Financial Instruments.SFAS 155 amends SFAS 133, Accounting for
Derivative Instruments and Hedging Activities and SFAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. SFAS 155 (i) permits fair value remeasurement for any hybrid
financial instrument that contains an embedded derivative that otherwise would require bifurcation, (ii) clarifies which interest-only strips and principal-only strips are not subject to the requirements of SFAS 133, (iii) establishes
a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation, (iv) clarifies that
concentrations of credit risk in the form of subordination are not embedded derivatives, and (v) amends SFAS 140 to eliminate the prohibition on a qualifying special purpose entity from holding a derivative financial instrument that
pertains to a beneficial interest other than another derivative financial instrument. The adoption of SFAS 155 on January 1, 2007 did not significantly impact the Companys consolidated financial statements.

SFAS No. 156, Accounting for Servicing of Financial Assets  an amendment of FASB Statement No. 140.SFAS 156 amends SFAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities  a replacement of FASB Statement No. 125, by requiring, in certain situations, an
entity to recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract. All separately recognized servicing assets and servicing liabilities are required
to be initially measured at fair value. Subsequent measurement methods include the amortization method, whereby servicing assets or servicing liabilities are amortized in proportion to and over the period of estimated net servicing income or net
servicing loss or the fair value method, whereby servicing assets or servicing liabilities are measured at fair value at each reporting date and changes in fair value are reported in earnings in the period in which



27



---

they occur. If the amortization method is used, an entity must assess servicing assets or servicing liabilities for impairment or increased obligation based
on the fair value at each reporting date. Adoption of SFAS 156 on January 1, 2007 did not have a significant impact on the Companys consolidated financial statements.

SFAS No. 157, Fair Value Measurements.SFAS 157 defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS 157 is effective for the Company on January 1, 2008 and is not expected to have a significant impact on the Companys financial
statements.

SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities  Including an
amendment of FASB Statement No. 115.SFAS 159 permits entities to choose to measure eligible items at fair value at specified election dates. Unrealized gains and losses on items for which the fair value option has been elected
are reported in earnings at each subsequent reporting date. The fair value option (i) may be applied instrument by instrument, with certain exceptions, (ii) is irrevocable (unless a new election date occurs) and (iii) is applied only
to entire instruments and not to portions of instruments. SFAS 159 is effective for the Company on January 1, 2008 and is not expected to have a significant impact on the Companys financial statements.

SFAS 141(R), Business Combinations (Revised.)SFAS 141R replaces SFAS 141, Business Combinations, and applies to all
transactions and other events in which one entity obtains control over one or more other businesses. SFAS 141R requires an acquirer, upon initially obtaining control of another entity, to recognize the assets, liabilities and any non-controlling
interest in the acquiree at fair value as of the acquisition date. Contingent consideration is required to be recognized and measured at fair value on the date of acquisition rather than at a later dater when the amount of that consideration may be
determinable beyond a reasonable doubt. This fair value approach replaces the cost-allocation process required under SFAS 141 whereby the cost of an acquisition was allocated to the individual assets acquired and liabilities assumed based on their
estimated fair value. SFAS 141R requires acquirers to expense acquisition related costs as incurred rather than allocating such costs to the assets acquired and liabilities assumed, as was previously the case under SFAS 121. Under SFAS 141R,
the requirements of SFAS 146, Accounting for Costs Associated with Exit or Disposal contingencies are to be recognized at fair value unless it is a non-contractual contingency that is likely to materialize, in which case, nothing should be
recognized in purchase accounting and, instead, that contingency would be subject to the probable and estimable recognition criteria of SFAS 5, Accounting for Contingencies. SFAS 141R is expected to have a significant impact on the
Companys accounting for business combinations closing on or after January 1, 2009.

SFAS No. 160,
Non-controlling Interest in Consolidated Financial Statements, an amendment of ARB Statement No. 51.SFAS 160 amends Accounting Research Bulletin (ARB) No. 51, Consolidated Financial Statements, to
establish accounting and reporting standards for the non-controlling interest in a subsidiary and for the deconsolidation of a subsidiary. SFAS 160 clarifies that a non-controlling interest in a subsidiary, which is sometimes referred to as
minority interest, is an ownership interest in the consolidated entity that should be reported as a component of equity in the consolidated financial statements. Among other requirements, SFAS 160 requires consolidated net income to be reported
at amounts that include the amounts attributable to both the parent and the non-controlling interest. It also requires disclosure, on the face of the consolidated income statement, of the amounts of consolidated net income attributable to the parent
and to the non-controlling interest. SFAS 160 is effective for the Company on January 1, 2009 and is not expected to have a significant impact on the Companys financial statements.

Financial Accounting Standards Board Staff Positions and Interpretations

FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement 109.Interpretation 48 prescribes a recognition threshold and a measurement attribute
for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. Benefits from tax positions should be recognized in the financial statements only when it is more likely than not that the tax
position will be sustained upon examination by the appropriate taxing authority that would have full knowledge of all relevant information. A tax position that meets the more-likely-than-not recognition threshold is measured at the largest amount of
benefit that is greater than fifty percent likely of being realized upon ultimate settlement. Tax positions that previously failed to meet the more-likely-than-not recognition threshold should be recognized in the first subsequent financial
reporting period in which that threshold is met. Previously recognized tax positions that no longer meet the more-likely-than-not recognition threshold should be derecognized in the first subsequent financial reporting period in which that threshold
is no longer met. Interpretation 48 also provides guidance on the accounting for and disclosure of unrecognized tax benefits, interest and penalties. The adoption of Interpretation 48 on January 1, 2007 did not significantly impact on the
Companys financial statements.

FSP No. 48-1 Definition of Settlement in FASB Interpretation No. 48.FSP 48-1 provides guidance on how to determine whether a tax position is effectively settled for the purpose of recognizing previously unrecognized tax benefits. FSP 48-1 was effective retroactively to January 1, 2007 and did not
significantly impact the Companys financial statements.

Emerging Issues Task Force Issues

Emerging Issues Task Force (EITF) Issue No. 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of
Endorsement Split Dollar Life Insurance Arrangements.EITF 06-4 requires the recognition of a liability and related



28



---

compensation expense for endorsement split-dollar life insurance policies that provide a benefit to an employee that extends to post-retirement periods.
Under EITF 06-4, life insurance policies purchased for the purpose of providing such benefits do not effectively settle an entitys obligation to the employee. Accordingly, the entity must recognize a liability and related compensation
expense during the employees active service period based on the future cost of insurance to be incurred during the employees retirement. If the entity has agreed to provide the employee with a death benefit, then the liability for the
future death benefit should be recognized by following the guidance in SFAS 106, Employers Accounting for Postretirement Benefits Other Than Pensions. The Company expects to adopt EITF 06-4 effective as of January 1,
2008 as a change in accounting principle through a cumulative-effect adjustment to retained earnings. The amount of the adjustment is not expected to be significant.

SEC Staff Accounting Bulletins

SAB No. 109, Written Loan Commitments
Recorded at Fair Value Through Earnings.SAB No. 109 supersedes SAB 105, Application of Accounting Principles to Loan Commitments, and indicates that the expected net future cash flows related to the associated
servicing of the loan should be included in the measurement of all written loan commitments that are accounted for at fair value through earnings. The guidance in SAB 109 is applied on a prospective basis to derivative loan commitments issued
or modified in fiscal quarters beginning after December 15, 2007. SAB 109 is not expected to have a material impact on the Companys financial statements.

2. CASH AND DUE FROM BANKS

Banks are required to carry cash reserves of specified percentages of
deposit balances. The Banks normal balances of cash on hand and on deposit with other banks are sufficient to satisfy these reserve requirements.

The Bank normally maintains balances with other banks that exceed the federally insured limit. The
average balance maintained in excess of the limit, including federal funds sold to the same bank, was approximately $16.9 million. At December 31, 2007 the Bank had invested $11.5 million in the Certificate of Deposit Account Registry
Service® (CDARS), which allows a financial institution or Bank customer to invest in federally insured deposits in excess of the then applicable FDIC insurance limits.

3. INVESTMENT SECURITIES

Investment securities are
summarized as follows:



|                             |  |               |        |                 |   |                  |  |                     |       |  |   |       
|---------------------------- |  | ------------- | ------ | --------------- | - | ---------------- |  | ------------------- | ----- |  | - | ------
|                             |  | AmortizedCost |        | UnrealizedGains |   | UnrealizedLosses |  | Estimated FairValue
|December 31, 2007            |  |               |        |                 |   |                  |  |                     |       |  |   |       
|Available for sale           |  |               |        |                 |   |                  |  |                     |       |  |   |       
|U.S. Government agency       |  | $             | 55,245 |                 | $ | 342              |  | $                   | 91    |  | $ | 55,496
|State and Municipal          |  |               | 868    |                 |   | 2                |  |                     | 2     |  |   | 868   
|Mortgage-backed securities   |  |               | 24,457 |                 |   | 88               |  |                     | 364   |  |   | 24,181
|Federal Home Loan Bank stock |  |               | 1,533  |                 |   |                 |  |                     |      |  |   | 1,533 
|Federal Reserve Bank stock   |  |               | 504    |                 |   |                 |  |                     |      |  |   | 504   
|Other equity securities      |  |               | 532    |                 |   | 9                |  |                     |       |  |   | 541   
|                             |  |               |        |                 |   |                  |  |                     |       |  |   |       
|                             |  | $             | 83,139 |                 | $ | 441              |  | $                   | 457   |  | $ | 83,123
|                             |  |               |        |                 |   |                  |  |                     |       |  |   |       
|                             |  |               |        |                
|December 31, 2006            |  |               |        |                 |   |                  |  |                     |       |  |   |       
|Available for sale           |  |               |        |                 |   |                  |  |                     |       |  |   |       
|U.S. Government agency       |  | $             | 51,944 |                 | $ | 3                |  | $                   | 820   |  | $ | 51,127
|State and Municipal          |  |               | 1,012  |                 |   | 17               |  |                     |      |  |   | 1,029 
|Mortgage-backed securities   |  |               | 25,301 |                 |   | 35               |  |                     | 810   |  |   | 24,526
|Federal Home Loan Bank stock |  |               | 1,960  |                 |   |                 |  |                     |      |  |   | 1,960 
|Federal Reserve Bank stock   |  |               | 504    |                 |   |                 |  |                     |      |  |   | 504   
|Other equity securities      |  |               | 509    |                 |   | 2                |  |                     |       |  |   | 511   
|                             |  |               |        |                 |   |                  |  |                     |       |  |   |       
|                             |  | $             | 81,230 |                 | $ | 57               |  | $                   | 1,630 |  | $ | 79,657
|                             |  |               |        |                 |   |                  |  |                     |       |  |   |       

There were no proceeds from the sale of securities during 2007 and 2005 compared to $2.9 million
in 2006. No losses on the sale of securities were recognized in 2007 compared to $23 thousand in 2006 and zero in 2005. Gains and losses are determined using the specific identification method.



29



---

Gross unrealized losses and fair value by length of time that the individual available-for-sale
securities have been in a continuous unrealized loss position at December 31, 2007 are as follows:



|                           |  |           |                    |                                          |                    |                        |  |   |     |  |   |    
|-------------------------- |  | --------- | ------------------ | ---------------------------------------- | ------------------ | ---------------------- |  | - | --- |  | - | ---
|                           |  | FairValue |                    | Continuous unrealized lossesexisting for |                    | Total UnrealizedLosses
|                           |  |           | Less than12 Months |                                          | More than12 Months |                       
|December 31, 2007          |  |           |                    |                                          |                    |                        |  |   |     |  |   |    
|Available for sale         |  |           |                    |                                          |                    |                        |  |   |     |  |   |    
|U.S. Government agency     |  | $         | 30,254             |                                          | $                  |                       |  | $ | 91  |  | $ | 91 
|State and Municipal        |  |           | 479                |                                          |                    | 2                      |  |   |    |  |   | 2  
|Mortgage-backed securities |  |           | 17,159             |                                          |                    | 39                     |  |   | 325 |  |   | 364
|                           |  |           |                    |                                          |                    |                        |  |   |     |  |   |    
|                           |  | $         | 47,892             |                                          | $                  | 41                     |  | $ | 416 |  | $ | 457
|                           |  |           |                    |                                          |                    |                        |  |   |     |  |   |    

The available-for-sale investment portfolio has a fair value of approximately $3.1 million of
which $47.9 million or 59.5% show an unrealized loss from the purchase price. Of these securities, $30.2 million, or 63.2%, are government agency bonds, $479 thousand or 1.0% are state and municipal bonds and $17.2 million, or 35.8% are
mortgage-backed securities. The unrealized losses that exist are the result of market changes in interest rates since the original purchase. These factors coupled with the fact the Company has both the intent and ability to hold these investments
for a period of time sufficient to allow for any anticipated recovery in fair value substantiates that the unrealized losses in the available-for-sale portfolio are temporary.

The amortized cost and estimated fair value of securities by contractual maturities at December 31, 2007 are shown below. Actual maturities of these
securities may differ from contractual maturities because borrowers may have the right to prepay obligations with or without call or prepayment penalties.



|                                 |  |                    |        |                     |   |       
|-------------------------------- |  | ------------------ | ------ | ------------------- | - | ------
|                                 |  | Available for Sale
|                                 |  | AmortizedCost      |        | EstimatedFair Value
|December 31, 2007                |  |                    |        |                     |   |       
|Due within one year              |  | $                  | 17,389 |                     | $ | 17,337
|Due after one through five years |  |                    | 14,921 |                     |   | 14,932
|Due after five years             |  |                    | 48,259 |                     |   | 48,276
|Equity securities                |  |                    | 2,570  |                     |   | 2,578 
|                                 |  |                    |        |                     |   |       
|                                 |  | $                  | 83,139 |                     | $ | 83,123
|                                 |  |                    |        |                     |   |       

At December 31, 2007, 2006 and 2005, investments available for sale with a carrying value of
$18.6 million, $23.9 million and $14.5 million, respectively, were pledged as collateral for certain government deposits and for other purposes as required by law.

4. LOANS AND ALLOWANCE FOR CREDIT LOSSES

Major classifications of loans are as follows:



|                                                  |  |      |         |   |      |   |         |  
|------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | -
|                                                  |  | 2007 |         |   | 2006 |  
|Real estate                                       |  |      |         |   |      |   |         |  
|Commercial                                        |  | $    | 91,548  |   |      | $ | 68,215  |  
|Residential                                       |  |      | 90,724  |   |      |   | 95,902  |  
|Commercial                                        |  |      | 46,007  |   |      |   | 40,545  |  
|Consumer                                          |  |      | 18,070  |   |      |   | 17,063  |  
|                                                  |  |      |         |   |      |   |         |  
|                                                  |  |      | 246,349 |   |      |   | 221,725 |  
|                                                  |  |      |         |   |      |   |         |  
|(Unearned income) Deferred loan origination costs |  |      | (161    | ) |      |   | 45      |  
|Allowance for credit losses                       |  |      | (2,283  | ) |      |   | (1,976  | )
|                                                  |  |      |         |   |      |   |         |  
|                                                  |  |      | (2,444  | ) |      |   | (1,931  | )
|                                                  |  |      |         |   |      |   |         |  
|Loans, net                                        |  | $    | 243,905 |   |      | $ | 219,794 |  
|                                                  |  |      |         |   |      |   |         |  

The maturity and rate repricing distribution of the loan portfolio is as follows:



|                                      |  |   |         |  |   |        
|------------------------------------- |  | - | ------- |  | - | -------
|Repricing or maturing within one year |  | $ | 80,111  |  | $ | 86,214 
|Maturing over one to five years       |  |   | 113,227 |  |   | 89,309 
|Maturing over five years              |  |   | 53,011  |  |   | 46,202 
|                                      |  |   |         |  |   |        
|                                      |  | $ | 246,349 |  | $ | 221,725
|                                      |  |   |         |  |   |        



30



---

Transactions in the allowance for credit losses are as follows:



|                                |  |      |       |      |   |       |  |   |      
|------------------------------- |  | ---- | ----- | ---- | - | ----- |  | - | -----
|                                |  | 2007 |       | 2006 |   | 2005 
|Balance, beginning of the year  |  | $    | 1,976 |      | $ | 2,012 |  | $ | 1,832
|Provision charged to operations |  |      | 448   |      |   | 12    |  |   | 442  
|Recoveries                      |  |      | 43    |      |   | 71    |  |   | 38   
|Charge-offs                     |  |      | 184   |      |   | 119   |  |   | 300  
|                                |  |      |       |      |   |       |  |   |      
|Balance, end of year            |  | $    | 2,283 |      | $ | 1,976 |  | $ | 2,012
|                                |  |      |       |      |   |       |  |   |      

The balance of nonaccrual and impaired loans is as follows:



|                                                      |  |      |       |      |   |       |  |   |      
|----------------------------------------------------- |  | ---- | ----- | ---- | - | ----- |  | - | -----
|                                                      |  | 2005 |       | 2006 |   | 2007 
|Total guaranteed by the Small Business Administration |  | $    |      |      | $ |      |  | $ | 65   
|Other nonaccrual loans                                |  |      | 787   |      |   | 854   |  |   | 1,245
|Total nonaccrual loans and impaired loans             |  |      | 1,096 |      |   | 1,078 |  |   | 2,007
|Average impaired loans                                |  |      | 563   |      |   | 924   |  |   | 1,144
|Related allowance for credit losses                   |  |      | 151   |      |   | 112   |  |   | 108  
|Interest collected                                    |  |      | 147   |      |   | 58    |  |   | 69   
|Balance of accrued interest not recorded              |  |      | 129   |      |   | 141   |  |   | 119  

The Bank lends to customers located primarily in Anne Arundel County and surrounding areas of
central Maryland. Although the loan portfolio is diversified, its performance will be influenced by the economy of the region.

Loans that
were 90 days or more past due, including nonaccrual loans were $171 thousand at December 31, 2007 and $163 thousand at December 31, 2006.

Certain officers and directors (and directors companies which have a 10% or more beneficial ownership) have loans with the Bank. Such loans were made in the ordinary course of business on substantially the same terms as those
prevailing at the time for comparable transactions with unrelated parties and are being repaid as agreed.

A summary of the activity of
these loans follows:



|                                      |  |      |        |   |      |   |        |  
|------------------------------------- |  | ---- | ------ | - | ---- | - | ------ | -
|                                      |  | 2007 |        |   | 2006 |  
|Beginning balance                     |  | $    | 10,032 |   |      | $ | 7,435  |  
|Advances                              |  |      | 831    |   |      |   | 3,191  |  
|Repayments                            |  |      | (350   | ) |      |   | (613   | )
|Change in officers and directors, net |  |      | (3,546 | ) |      |   | 19     |  
|                                      |  |      |        |   |      |   |        |  
|Ending balance                        |  | $    | 6,967  |   |      | $ | 10,032 |  
|                                      |  |      |        |   |      |   |        |  

5. CREDIT COMMITMENTS

Loan commitments outstanding, unused lines of credit and letters of credit are as follows:



|                                     |  |      |        |      |   |       
|------------------------------------ |  | ---- | ------ | ---- | - | ------
|Dollars in thousands                 |  | 2007 |        | 2006
|Loan commitments and lines of credit |  |      |        |      |   |       
|Construction                         |  | $    | 3,057  |      | $ | 23,036
|Other                                |  |      | 59,102 |      |   | 42,911
|                                     |  |      |        |      |   |       
|                                     |  | $    | 62,159 |      | $ | 65,947
|                                     |  |      |        |      |   |       
|Letter of credit                     |  |      |        |      |   |       
|Deposit secured                      |  | $    | 796    |      | $ | 1,068 
|Other                                |  |      | 758    |      |   | 717   
|                                     |  |      |        |      |   |       
|                                     |  | $    | 1,554  |      | $ | 1,785 
|                                     |  |      |        |      |   |       

Loan commitments including lines of credit are agreements to lend to a customer as long as there
is no violation of any condition to the contract. Loan commitments generally have variable interest rates, fixed expiration dates, and may require payment of a fee. Lines of credit generally have variable interest rates. Such lines do not represent
future cash requirements because it is unlikely that all customers will draw upon their lines in full at any time. Letters of credit are commitments issued to guarantee the performance of a customer to a third party. Loan commitments and lines and
letters of credit are made on the same terms, including collateral, as outstanding loans. Management is not aware of any accounting loss the Company will incur by the funding of these commitments.



31



---

6. INVESTMENT IN BANK OWNED LIFE INSURANCE

In 2002, the Bank purchased single premium policies of Bank Owned Life Insurance (BOLI) amounting to $3,110,000. The increase in cash surrender value is
recorded as other noninterest income. The Bank recorded $152,000 in BOLI income for 2007, $137,000 in 2006 and $128,000 in 2005.

7. PREMISES AND
EQUIPMENT

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



|                                     |  |      |        |      |   |       
|------------------------------------ |  | ---- | ------ | ---- | - | ------
|                                     |  | 2007 |        | 2006
|Land, land improvements and building |  | $    | 6,855  |      | $ | 6,816 
|Leasehold improvements               |  |      | 2,567  |      |   | 2,388 
|Furniture, fixtures, and equipment   |  |      | 2,666  |      |   | 2,408 
|Construction in progress             |  |      | 45     |      |   | 24    
|                                     |  |      |        |      |   |       
|                                     |  |      | 12,133 |      |   | 11,636
|Accumulated depreciation             |  |      | 2,954  |      |   | 2,463 
|                                     |  |      |        |      |   |       
|Net premises and equipment           |  | $    | 9,179  |      | $ | 9,173 
|                                     |  |      |        |      |   |       

Depreciation and amortization expense was $508 thousand for 2007, $477 thousand for 2006 and $454
thousand for 2005. No interest was capitalized for the year ended December 31, 2007 while $34 thousand of interest was capitalized in association with the construction in progress in 2006 and $13 thousand in interest was capitalized in 2005.

8. LEASE COMMITMENTS

Lease
obligations will require minimum rent payments as follows:



|                |  |                      |      
|--------------- |  | -------------------- | -----
|Period          |  | MinimumRentals$(000)
|2008            |  | $                    | 264  
|2009            |  |                      | 355  
|2010            |  |                      | 343  
|2011            |  |                      | 310  
|2012            |  |                      | 291  
|Remaining years |  |                      | 1,414
|                |  |                      |      
|                |  | $                    | 2,977
|                |  |                      |      

The leases generally provide for payment of property taxes, insurance, and maintenance costs by
the Company. The total rental expense for all real property leases was $234 thousand, $212 thousand and $180 thousand for 2007, 2006 and 2005, respectively.

9. DEPOSITS

Major classifications of deposits are as follows:



|                                  |  |      |         |      |   |        
|--------------------------------- |  | ---- | ------- | ---- | - | -------
|                                  |  | 2007 |         | 2006
|Demand, noninterest bearing       |  | $    | 38,075  |      | $ | 42,218 
|NOW accounts                      |  |      | 28,254  |      |   | 43,798 
|Savings and Money Market accounts |  |      | 130,136 |      |   | 85,684 
|Time deposits, $100,000 and over  |  |      | 41,312  |      |   | 38,146 
|Other time                        |  |      | 53,812  |      |   | 64,329 
|                                  |  |      |         |      |   |        
|                                  |  | $    | 291,589 |      | $ | 274,175
|                                  |  |      |         |      |   |        

Time deposits mature as follows:



|                                      |  |   |        |  |   |        
|------------------------------------- |  | - | ------ |  | - | -------
|Repricing or maturing within one year |  | $ | 74,839 |  | $ | 78,316 
|Maturing over one to three years      |  |   | 17,739 |  |   | 20,824 
|Maturing over three to five years     |  |   | 2,546  |  |   | 3,335  
|                                      |  |   |        |  |   |        
|                                      |  | $ | 95,124 |  | $ | 102,475
|                                      |  |   |        |  |   |        

At December 31, 2007 and 2006 there were no time deposits with maturities in excess of five
years.



32



---

10. SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE

Securities sold under agreements to repurchase are securities sold to the Banks customers, at the customers request, under a continuing
roll-over contract that matures in one business day. The underlying securities sold are U.S. Treasury notes or Federal agencies that are segregated in the Banks correspondent safekeeping account from the Banks other
investment securities.

The following table presents certain information for repurchase agreements:



|                                      |  |      |        |   |      |   |        |      |  |   |        |  
|------------------------------------- |  | ---- | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                      |  | 2007 |        |   | 2006 |   |        | 2005 | 
|Balance outstanding, at year end      |  | $    | 13,337 |   |      | $ | 17,734 |      |  | $ | 12,986 |  
|Average balance during the year       |  |      | 15,589 |   |      |   | 14,084 |      |  |   | 10,494 |  
|Average interest rate during the year |  |      | 3.93   | % |      |   | 3.71   | %    |  |   | 2.76   | %
|Maximum month-end balance             |  | $    | 24,920 |   |      | $ | 19,886 |      |  | $ | 13,164 |  

11. BORROWINGS

The Company had other long-term borrowings at December 31, 2007 and 2006 as follows:



|                                                                     |  |      |        |      |   |       
|-------------------------------------------------------------------- |  | ---- | ------ | ---- | - | ------
|                                                                     |  | 2007 |        | 2006
|FHLB 4.75% Advance due May 2012, Callable May 2007                   |  | $    |       |      | $ | 5,000 
|FHLB 2.85% Advance due March 2014, Callable March 2009               |  |      | 5,000  |      |   | 5,000 
|FHLB Floating Rate Advance due May 2007 priced at 281 bp below Prime |  |      |       |      |   | 5,000 
|FHLB 4.01% Advance due November 2016, Callable May 2007              |  |      |       |      |   | 15,000
|FHLB 3.04% Advance due November 2017, Callable November 2008         |  |      | 5,000  |      |   |      
|FHLB 3.19% Advance due November 2017, Callable December 2009         |  |      | 5,000  |      |   |      
|FHLB 3.42% Advance due November 2017, Callable December 2010         |  |      | 5,000  |      |   |      
|                                                                     |  |      |        |      |   |       
|Total                                                                |  | $    | 20,000 |      | $ | 30,000
|                                                                     |  |      |        |      |   |       

Interest on these instruments is paid quarterly. FHLB advances are fully collateralized by pledges
of loans. The Company has pledged under a blanket lien all qualifying residential and commercial mortgage loans under the borrowing agreement with the FHLB.

At December 31, 2007 the Company had a short-term borrowing of $4.2 million at an interest rate of 3.65% that was repayable within a period of one to fourteen days. The Company had no short-term borrowings at
December 31, 2006.

12. GUARANTEED PREFERRED BENEFICIAL INTEREST IN JUNIOR SUBORDINATED DEBENTURES

On March 26, 2003, Annapolis Bancorp Statutory Trust I (Statutory Trust I), a Connecticut business trust formed, funded and wholly owned
by the Company, issued $5,000,000 of variable-rate capital securities to institutional investors in a private pooled transaction. The variable rate on these securities adjusts quarterly based on the 90-day LIBOR rate plus 3.15%. The current rate is
8.01%. The proceeds were up-streamed to the Company as junior subordinated debt under the same terms and conditions. The Company then down-streamed $4,875,000 to the Bank in the form of additional capital. The Company has, through various
contractual arrangements, fully and unconditionally guaranteed all of Statutory Trust Is obligations with respect to the capital securities. These capital securities currently qualify as Tier I capital and are presented in the Consolidated
Balance Sheets as Guaranteed Preferred Beneficial Interests in Junior Subordinated Debentures. The sole asset of the Statutory Trust I is $5,155,000 of junior subordinated debentures issued by the Company. These junior subordinated
debentures carry a variable interest rate of 3.15% over the 90 day LIBOR, payable semiannually, with a non-call provision over the first five year period. Both the capital securities of Statutory Trust I and the junior subordinated debentures are
scheduled to mature on March 26, 2033, unless called by the Company not earlier than March 26, 2008. Interest expense on the trust preferred securities for the years ended December 31, 2007 and 2006 totaled $429 thousand and $418
thousand, respectively.

Costs associated with the issuance of the trust preferred securities totaling $125,000 were capitalized and are
being amortized through 2008. Amortization for the years ended December 31, 2007, 2006 and 2005 was $21 thousand.

13. PROFIT SHARING AND OTHER
EMPLOYEE BENEFIT PLANS

The Company has a profit sharing plan, qualifying under Section 401(k) of the Internal Revenue Code, for
those employees who meet the eligibility requirements set forth in the plan. The plan does not require the Company to match the participants contributions. The Companys contributions to the plan were $127 thousand in 2007, $122 thousand
in 2006 and $107 thousand in 2005.



33



---

The Company has entered into individual Supplemental Executive Retirement Agreements (SERAs) with certain
of its executives. The SERAs are designed to provide certain post-retirement benefits to enable a targeted level of covered retirement income to be met and to provide certain death benefits. The Company is accruing the present value of these
benefits over the remaining number of years to the executives retirement dates. Benefit accruals included in noninterest expense for 2007, 2006, and 2005 were $166 thousand, $39 thousand and $52 thousand, respectively.

In 2006 the Company created an Employee Stock Purchase Plan (ESPP) whereby under the terms of the ESPP an employee may purchase Annapolis
Bancorp, Inc. common stock at a 5% discount of the market price at the end of a purchase period. During 2007 employees purchased 708 shares of common stock under the ESPP.

14. STOCK-BASED COMPENSATION

In April 1997, the Company adopted a stock option plan, authorizing the
issuance of 177,777 shares of common stock, intended to qualify as incentive stock options under Section 422 of the Internal Revenue Code. The plan provided for granting options to purchase shares of common stock to the officers and other key
employees of the Company and the Bank. Options granted under this plan have ten-year expiration dates with vesting periods from immediate to five years. After April 2000 no additional options could be granted under this plan.

In April 2000, a new incentive stock option plan was approved by the shareholders at the annual meeting. Under this plan, the Companys compensation
committee has discretionary authority to grant stock options, restricted stock awards, and deferred share awards to employees and directors, including members of the committee. Under this plan, up to 355,554 shares of Company stock, as adjusted for
the August 24, 2001 and December 3, 2005 four-for-three stock splits in the form of stock dividends, may be awarded under the direction of the committee. The plan provides for the awards to vest over a five-year period of time. Options
have a ten-year expiration period. After April 2006 no additional options could be granted under this plan.

In May 2006, a new Company
stock incentive plan was approved by shareholders at the annual meeting. Under the plan, up to 200,000 shares of the Companys common stock may be awarded under the direction of the Companys Compensation Committee. The Compensation
Committee may in its discretion grant the following types of awards: options, share appreciation rights, restricted shares, deferred shares and performance awards. During 2007 34,704 shares of which 15,862 were options and 18,842 shares were
restricted shares were granted under the terms of the plan. Prior to 2005 the Company accounted for stock-based compensation using the intrinsic value method set forth in Accounting Principles Board Opinion (APB) No. 25,
Accounting for Stock Issued to Employees. For disclosure purposes, pro forma net income and earnings per share are provided as if the fair value method has been applied, in accordance with SFAS No. 148 Accounting for
Stock-Based Compensation  Transition and Disclosure.

During 2005 the Company adopted the prospective method of recognizing
stock-based compensation provided by SFAS No. 148. Accordingly, expense is recognized for all employee awards granted, modified or settled after the beginning of 2005. Option awards granted in 2005 did not vest until 2006.

During 2006 the Company adopted the provisions of SFAS 123R which required the recognition of stock-based compensation expense and did not have a
material impact on the Companys financial statements.

The Company recognized $70,000 in stock-based compensation expense for the
year ended December 31, 2007, $37,000 in 2006 and $130,000 in 2005. Stock-based compensation expense recognized in the consolidated statement of income for the years ended December 31, 2007, 2006 and 2005 reflects estimated forfeitures.

The following table illustrates the effect on net income and earnings per share if the Company had applied all of the fair value
recognition provisions of SFAS 123R in the twelve months ended December 31, 2005:



|                                                                                                                                                                    |  |      |       |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- | ----- | -
|                                                                                                                                                                    |  | 2005 |      
|Net income as reported                                                                                                                                              |  | $    | 2,981 |  
|Add: Stock option employee compensation expense included in reported net income, net of related tax effect                                                          |  |      | 81    |  
|Deduct: Total stock option employee compensation expense determined under the fair value method for all awards vested during the period, net
of related tax effects |  |      | (107  | )
|                                                                                                                                                                    |  |      |       |  
|Proforma income                                                                                                                                                     |  | $    | 2,955 |  
|                                                                                                                                                                    |  |      |       |  
|                                                                                                                                                                    | 
|Basic earnings per share                                                                                                                                            |  |      |       |  
|As reported                                                                                                                                                         |  | $    | 0.73  |  
|Proforma                                                                                                                                                            |  | $    | 0.72  |  
|                                                                                                                                                                    | 
|Diluted earnings per share                                                                                                                                          |  |      |       |  
|As reported                                                                                                                                                         |  | $    | 0.71  |  
|Proforma                                                                                                                                                            |  | $    | 0.70  |  



34



---

This standard defines a fair value-based method for measuring compensation expense for stock-based plans
to be recognized in the statement of income or disclosed in the notes to the financial statements.

The weighted average fair value of
options granted during 2007, 2006, and 2005 has been estimated using the Black-Scholes option-pricing model with the following assumptions:



|                        |  |       |   |  |       |  |       |  
|----------------------- |  | ----- | - |  | ----- |  | ----- | -
|                        |  | 2007  |   |  | 2006* |  | 2005  |  
|Dividend yield          |  |      |   |  |      |  | 0.00  | %
|Risk free interest rate |  | 4.46  | % |  |      |  | 3.86  | %
|Expected volatility     |  | 24.21 | % |  |      |  | 35.39 | %
|Expected life in years  |  | 6     |   |  |      |  | 7     |  



|* | There were no options granted during 2006.
|- | ------------------------------------------

Net cash
proceeds from the exercise of stock options were approximately $21,000, $101,000 and $55,000 for the years ending December 31, 2007, 2006 and 2005, respectively.

Stock option activity for the years ended December 31, 2007, 2006 and 2005 is as follows:



|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|------------------------------------------------------ |  | --------------- | ------- | ---- | ---------------------------- | ---- | --------------- |  | - | ---------------------------- | - | --------------- | - | ---- | ---------------------------- | - | --------- | - |  | - | ----
|                                                       |  | 2007            |         | 2006 |                              | 2005
|                                                       |  | Number ofShares |         |      | WeightedAverageExercisePrice |      | Number ofShares |  |   | WeightedAverageExercisePrice |   | Number ofShares |   |      | WeightedAverageExercisePrice
|Options Outstanding                                    |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Outstanding, beginning of year                         |  |                 | 253,465 |      |                              | $    | 4.65            |  |   | 307,512                      |   |                 | $ | 4.82 |                              |   | 276,588   |   |  | $ | 3.75
|Granted                                                |  |                 | 15,862  |      |                              |      | 8.77            |  |   |                             |   |                 |   |     |                              |   | 66,664    |   |  |   | 9.30
|Exercised                                              |  |                 | (6,188  | )    |                              |      | 3.38            |  |   | (29,093                      | ) |                 |   | 3.47 |                              |   | (19,387   | ) |  |   | 2.87
|Forfeited                                              |  |                 | (13,888 | )    |                              |      | 9.31            |  |   | (24,954                      | ) |                 |   | 8.10 |                              |   | (16,353   | ) |  |   | 7.58
|Expired                                                |  |                 | (4,143  | )    |                              |      | 4.78            |  |   |                             |   |                 |   |     |                              |   |          |   |  |   |    
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Outstanding, end of year                               |  |                 | 245,108 |      |                              | $    | 4.68            |  |   | 253,465                      |   |                 | $ | 4.65 |                              |   | 307,512   |   |  | $ | 4.82
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Vested                                                 |  |                 | 205,083 |      |                              | $    | 3.86            |  |   | 194,447                      |   |                 | $ | 3.55 |                              |   | 186,677   |   |  | $ | 3.20
|Nonvested                                              |  |                 | 40,025  |      |                              |      | 8.89            |  |   | 59,018                       |   |                 |   | 8.27 |                              |   | 120,835   |   |  |   | 7.31
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Outstanding, end of year                               |  |                 | 245,108 |      |                              | $    | 4.68            |  |   | 253,465                      |   |                 | $ | 4.65 |                              |   | 307,512   |   |  | $ | 4.82
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Weighted average remaining contractual term in years   |  |                 |         |      |                              |      | 4.25            |  |   |                              |   |                 |   | 4.99 |                              |   |           |   |  |   | 6.14
|Weighted fair value of options granted during the year |  |                 |         |      |                              | $    | 2.93            |  |   |                              |   |                 |   | na   |                              |   |           |   |  | $ | 3.86
|Total fair value of options outstanding, end of year   |  | $               | 742,000 |      |                              |      |                 |  | $ | 1,615,000                    |   |                 |   |      |                              | $ | 1,846,000 |   |  |   |     
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     
|Total intrinsic value of options vested, end of year   |  | $               | 806,000 |      |                              |      |                 |  | $ | 1,157,000                    |   |                 |   |      |                              | $ | 1,103,000 |   |  |   |     
|                                                       |  |                 |         |      |                              |      |                 |  |   |                              |   |                 |   |      |                              |   |           |   |  |   |     

The remaining options expire as follows:



|                |  |                               |      |               |         |           |       
|--------------- |  | ----------------------------- | ---- | ------------- | ------- | --------- | ------
|Expiration Date |  | WeightedAverageExercise Price |      | OptionsVested |         | Nonvested
|2008            |  | $                             | 6.19 |               | 4,444   |           |      
|2009            |  |                               | 2.72 |               | 26,666  |           |      
|2010            |  |                               | 2.42 |               | 53,328  |           |      
|2011            |  |                               | 2.70 |               | 53,481  |           |      
|2012            |  |                               | 4.14 |               | 35,333  |           |      
|2013            |  |                               | 7.23 |               | 7,643   |           | 1,911 
|2014            |  |                               | 8.06 |               | 6,478   |           | 4,318 
|2015            |  |                               | 9.24 |               | 16,502  |           | 24,754
|2016            |  |                               | 8.77 |               | 1,208   |           | 4,832 
|2017            |  |                               | 8.77 |               |        |           | 4,210 
|                |  |                               |      |               |         |           |       
|                |  |                               |      |               | 205,083 |           | 40,025
|                |  |                               |      |               |         |           |       



35



---

A summary of the status of the Companys restricted share awards follows:



|                               |  |                 |   |      |                               |      |                 |   |                               |   |                 |  |        |                               |  |   |     
|------------------------------ |  | --------------- | - | ---- | ----------------------------- | ---- | --------------- | - | ----------------------------- | - | --------------- |  | ------ | ----------------------------- |  | - | ----
|                               |  | 2007            |   | 2006 |                               | 2005
|                               |  | Numberof Shares |   |      | WeightedAverageExercise Price |      | Numberof Shares |   | WeightedAverageExercise Price |   | Numberof Shares |  |        | WeightedAverageExercise Price
|Restricted Shares              |  |                 |   |      |                               |      |                 |   |                               |   |                 |  |        |                               |  |   |     
|Outstanding, beginning of year |  |                |   |      | $                             |     |                 |  |                               | $ |                |  | 2,933  |                               |  | $ | 2.42
|Granted                        |  | 18,842          |   |      |                               | 9.09 |                 |  |                               |   |                |  |       |                               |  |   |    
|Vested                         |  | (5,311          | ) |      |                               | 9.40 |                 |  |                               |   |                |  | (2,933 | )                             |  |   | 2.42
|Forfeited                      |  | (531            | ) |      |                               | 9.40 |                 |  |                               |   |                |  |       |                               |  |   |    
|                               |  |                 |   |      |                               |      |                 |   |                               |   |                 |  |        |                               |  |   |     
|Outstanding, end of year       |  | 13,000          |   |      | $                             | 8.95 |                 |  |                               | $ |                |  |       |                               |  | $ |    
|                               |  |                 |   |      |                               |      |                 |   |                               |   |                 |  |        |                               |  |   |     

The aggregate intrinsic value in the table above represents the total pre-tax value (that is, the
difference between the closing stock price on the last trading day in the year and the exercise price for those options in the money multiplied by the number of shares) that would have been received by the option holders had all options holders
exercised their options on the last trading day of the year. This amount changes based on the fair market value of the Companys stock. Total intrinsic value of options exercised is approximately $26,000, $175,000 and $118,000 for years ended
December 31, 2007, 2006 and 2005, respectively. Total fair value of options outstanding at December 31, 2007, 2006, and 2005 was $742,000, $1,615,000 and $1,846,000.

As of December 31, 2007, $126,000 of total unrecognized compensation costs related to unvested options is expected to be recognized over a weighted
average period of 4.25 years, while $110,000 of total unrecognized compensation costs related to restricted share units is expected to be recognized over a weighted average period of 4.69 years.

15. LINES OF CREDIT

The Bank is a member of the
Federal Home Loan Bank system and may borrow up to an additional $124.7 million. If funded, this line is secured by one- to four-family residential and commercial mortgage loans held in the Banks portfolio. In addition, the Bank has available
secured and unsecured lines of credit of $15.5 million.

16. PREFERRED STOCK

The Company is authorized to issue up to 2,000,000 shares of preferred stock with a par value of $.01 per share. There were no preferred shares
outstanding at December 31, 2007 or 2006.



36



---

17. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

THREE MONTHS ENDED



|                            |  |              |       |               |   |          |  |           |       |  |   |      
|--------------------------- |  | ------------ | ----- | ------------- | - | -------- |  | --------- | ----- |  | - | -----
|                            |  | December 31, |       | September 30, |   | June 30, |  | March 31,
|2007                        |  |              |       |               |   |          |  |           |       |  |   |      
|Interest income             |  | $            | 5,681 |               | $ | 5,794    |  | $         | 5,632 |  | $ | 5,359
|Interest expense            |  |              | 2,679 |               |   | 2,792    |  |           | 2,715 |  |   | 2,430
|Net interest income         |  |              | 3,002 |               |   | 3,002    |  |           | 2,917 |  |   | 2,929
|Provision for credit losses |  |              | 295   |               |   | 133      |  |           | 10    |  |   | 10   
|Net income                  |  |              | 531   |               |   | 662      |  |           | 628   |  |   | 603  
|Comprehensive income        |  |              | 801   |               |   | 1,518    |  |           | 269   |  |   | 864  
|Earnings per sharebasic    |  |              | 0.13  |               |   | 0.16     |  |           | 0.15  |  |   | 0.15 
|Earnings per sharediluted  |  |              | 0.13  |               |   | 0.16     |  |           | 0.15  |  |   | 0.14 
|                            |  |              |       |              
|2006                        |  |              |       |               |   |          |  |           |       |  |   |      
|Interest income             |  | $            | 5,362 |               | $ | 5,187    |  | $         | 4,795 |  | $ | 4,502
|Interest expense            |  |              | 2,346 |               |   | 2,200    |  |           | 1,858 |  |   | 1,630
|Net interest income         |  |              | 3,016 |               |   | 2,987    |  |           | 2,937 |  |   | 2,872
|Provision for credit losses |  |              |      |               |   |         |  |           |      |  |   | 12   
|Net income                  |  |              | 827   |               |   | 740      |  |           | 694   |  |   | 690  
|Comprehensive income        |  |              | 883   |               |   | 1,429    |  |           | 370   |  |   | 342  
|Earnings per sharebasic    |  |              | 0.20  |               |   | 0.18     |  |           | 0.17  |  |   | 0.17 
|Earnings per sharediluted  |  |              | 0.20  |               |   | 0.18     |  |           | 0.17  |  |   | 0.16 
|                            |  |              |       |              
|2005                        |  |              |       |               |   |          |  |           |       |  |   |      
|Interest income             |  | $            | 4,498 |               | $ | 4,440    |  | $         | 4,222 |  | $ | 3,944
|Interest expense            |  |              | 1,565 |               |   | 1,535    |  |           | 1,376 |  |   | 1,157
|Net interest income         |  |              | 2,933 |               |   | 2,905    |  |           | 2,846 |  |   | 2,787
|Provision for credit losses |  |              | 149   |               |   | 73       |  |           | 75    |  |   | 145  
|Net income                  |  |              | 1,011 |               |   | 678      |  |           | 672   |  |   | 620  
|Comprehensive income        |  |              | 646   |               |   | 287      |  |           | 1,081 |  |   | 98   
|Earnings per sharebasic    |  |              | 0.25  |               |   | 0.17     |  |           | 0.16  |  |   | 0.15 
|Earnings per sharediluted  |  |              | 0.24  |               |   | 0.16     |  |           | 0.16  |  |   | 0.15 

18. INCOME TAXES

The components of income tax expense are as follows:



|         |  |      |       |   |      |   |       |  |   |       |  
|-------- |  | ---- | ----- | - | ---- | - | ----- |  | - | ----- | -
|         |  | 2007 |       |   | 2006 |   | 2005  | 
|Current  |  |      |       |   |      |   |       |  |   |       |  
|Federal  |  | $    | 1,451 |   |      | $ | 1,512 |  | $ | 1,559 |  
|State    |  |      | 136   |   |      |   | 227   |  |   | 267   |  
|         |  |      |       |   |      |   |       |  |   |       |  
|         |  |      | 1,587 |   |      |   | 1,739 |  |   | 1,826 |  
|Deferred |  |      | (268  | ) |      |   | 1     |  |   | (190  | )
|         |  |      |       |   |      |   |       |  |   |       |  
|         |  | $    | 1,319 |   |      | $ | 1,740 |  | $ | 1,636 |  
|         |  |      |       |   |      |   |       |  |   |       |  

The components of the deferred tax expense (benefit) are as follows:



|                            |  |      |      |   |      |   |     |      |  |   |      |  
|--------------------------- |  | ---- | ---- | - | ---- | - | --- | ---- |  | - | ---- | -
|                            |  | 2007 |      |   | 2006 |   |     | 2005 | 
|Provision for credit losses |  | $    | (146 | ) |      | $ | (71 | )    |  | $ | (115 | )
|Deferred compensation       |  |      | (67  | ) |      |   | 15  |      |  |   | (26  | )
|Depreciation expense        |  |      | 77   |   |      |   | 21  |      |  |   | (22  | )
|Deferred loan fees          |  |      | (79  | ) |      |   | (6  | )    |  |   | (29  | )
|Other                       |  |      | (53  | ) |      |   | 42  |      |  |   | (2   | )
|                            |  |      |      |   |      |   |     |      |  |   |      |  
|Deferred tax expense        |  | $    | (268 | ) |      | $ | 1   |      |  | $ | (190 | )
|                            |  |      |      |   |      |   |     |      |  |   |      |  



37



---

The components of the net deferred tax assets are as follows:



|                                                 |  |      |       |      |   |       |  |   |      
|------------------------------------------------ |  | ---- | ----- | ---- | - | ----- |  | - | -----
|                                                 |  | 2007 |       | 2006 |   | 2005 
|Deferred tax assets                              |  |      |       |      |   |       |  |   |      
|Allowance for credit losses                      |  | $    | 705   |      | $ | 559   |  | $ | 630  
|Deferred compensation                            |  |      | 144   |      |   | 77    |  |   | 62   
|Deferred Loan Fees                               |  |      | 63    |      |   |      |  |   |     
|Unrealized loss on securities available for sale |  |      | 6     |      |   | 535   |  |   | 573  
|Other                                            |  |      | 89    |      |   | 30    |  |   |     
|                                                 |  |      |       |      |   |       |  |   |      
|Total deferred tax assets                        |  |      | 1,007 |      |   | 1,201 |  |   | 1,265
|                                                 |  |      |      
|Deferred tax liabilities                         |  |      |       |      |   |       |  |   |      
|Depreciation                                     |  |      | 171   |      |   | 94    |  |   | 115  
|Deferred Loan Fees                               |  |      |      |      |   | 16    |  |   | 22   
|                                                 |  |      |       |      |   |       |  |   |      
|Total deferred tax liabilities                   |  |      | 171   |      |   | 110   |  |   | 137  
|                                                 |  |      |       |      |   |       |  |   |      
|Net deferred tax asset                           |  | $    | 836   |      | $ | 1,091 |  | $ | 1,128
|                                                 |  |      |       |      |   |       |  |   |      

The differences between federal income taxes and the amount reported by the Company follow:



|                                              |  |        |       |   |      |      |    |        |   |       |   |  |      |        |  |   |       |   |  |      |   
|--------------------------------------------- |  | ------ | ----- | - | ---- | ---- | -- | ------ | - | ----- | - |  | ---- | ------ |  | - | ----- | - |  | ---- | --
|                                              |  | 2007   |       |   | 2006 |      |    | 2005   |  
|                                              |  | Amount |       |   | %    |      |    | Amount |   |       | % |  |      | Amount |  |   | %     |  
|Income before income taxes                    |  | $      | 3,743 |   |      |      |    |        | $ | 4,691 |   |  |      |        |  | $ | 4,617 |   |  |      |   
|                                              |  |        |       |   |      |      |    |        |   |       |   |  |      |        |  |   |       |   |  |      |   
|Taxes computed at the federal income tax rate |  | $      | 1,273 |   |      | 34.0 | %  |        | $ | 1,595 |   |  | 34.0 | %      |  | $ | 1,570 |   |  | 34.0 | % 
|Increases (decreases) resulting from          |  |        |       |   |      |      |    |        |   |       |   |  |      |        |  |   |       |   |  |      |   
|State income taxes, net of federal benefit    |  |        | 90    |   |      | 2.4  | %  |        |   | 154   |   |  | 3.1  | %      |  |   | 226   |   |  | 4.9  | % 
|Nondeductible expenses                        |  |        | 18    |   |      | 0.5  | %  |        |   | 38    |   |  | 0.1  | %      |  |   | 8     |   |  | 0.1  | % 
|Nontaxable income                             |  |        | (62   | ) |      | (1.7 | )% |        |   | (47   | ) |  | (0.1 | )%     |  |   | (168  | ) |  | (3.6 | )%
|                                              |  |        |       |   |      |      |    |        |   |       |   |  |      |        |  |   |       |   |  |      |   
|Income tax expense                            |  | $      | 1,319 |   |      | 35.2 | %  |        | $ | 1,740 |   |  | 37.1 | %      |  | $ | 1,636 |   |  | 35.4 | % 
|                                              |  |        |       |   |      |      |    |        |   |       |   |  |      |        |  |   |       |   |  |      |   

19. CAPITAL STANDARDS

The Federal Reserve Board and the Federal Deposit Insurance Corporation have adopted risk-based capital standards for banking organizations. These standards require ratios of capital to assets for minimum capital
adequacy and to be classified as well capitalized under prompt corrective action provisions. The capital ratios and minimum capital requirements of the Company and the Bank as of December 31, 2007 and 2006 are as follows:



|                                         |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|---------------------------------------- |  | ------------ | ------ | ----- | ---- | - | ---------------------------- | - | ------ |  | --- | -------------------------- |  | ----- | ------ |  | ---- | -
|                                         |  | ActualAmount |        | Ratio |      |   | MinimumCapitalAdequacyAmount |   | Ratio  |  |     | To beWellCapitalizedAmount |  | Ratio |       
|December 31, 2007                        |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Total capital (to risk-weighted assets)  |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 34,145 |       | 13.4 | % |                              | $ | 20,402 |  | 8.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 34,094 |       | 13.4 | % |                              | $ | 20,400 |  | 8.0 | %                          |  | $     | 25,500 |  | 10.0 | %
|Tier 1 capital (to risk-weighted assets) |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 31,862 |       | 12.5 | % |                              | $ | 10,201 |  | 4.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 31,811 |       | 12.5 | % |                              | $ | 10,200 |  | 4.0 | %                          |  | $     | 15,300 |  | 6.0  | %
|Tier 1 capital (to average assets)       |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 31,862 |       | 9.0  | % |                              | $ | 14,141 |  | 4.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 31,811 |       | 9.0  | % |                              | $ | 14,140 |  | 4.0 | %                          |  | $     | 17,674 |  | 5.0  | %
|                                         |  |              |        |       |      |  
|December 31, 2006                        |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Total capital (to risk-weighted assets)  |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 32,134 |       | 13.6 | % |                              | $ | 18,935 |  | 8.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 32,074 |       | 13.6 | % |                              | $ | 18,932 |  | 8.0 | %                          |  | $     | 23,665 |  | 10.0 | %
|Tier 1 capital (to risk-weighted assets) |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 30,159 |       | 12.7 | % |                              | $ | 9,468  |  | 4.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 30,098 |       | 12.7 | % |                              | $ | 9,466  |  | 4.0 | %                          |  | $     | 14,199 |  | 6.0  | %
|Tier 1 capital (to average assets)       |  |              |        |       |      |   |                              |   |        |  |     |                            |  |       |        |  |      |  
|Company                                  |  | $            | 30,159 |       | 8.9  | % |                              | $ | 13,476 |  | 4.0 | %                          |  |       |        |  |      |  
|Bank                                     |  | $            | 30,098 |       | 8.9  | % |                              | $ | 13,473 |  | 4.0 | %                          |  | $     | 16,841 |  | 5.0  | %



38



---

Tier 1 capital consists of capital stock, paid in capital, and retained earnings. Total capital includes
a limited amount of the allowance for credit losses. In calculating risk-weighted assets, specified risk percentages are applied to each category of asset and off-balance sheet items.

Failure to meet the capital requirements could affect the Banks ability to pay dividends and accept deposits and may significantly affect the
operations of the Bank.

20. FAIR VALUE OF FINANCIAL INSTRUMENTS

The estimated fair values of the Banks financial instruments are summarized below. The fair values of a significant portion of these financial instruments are estimates derived using present value techniques and
may not be indicative of the net realizable or liquidation values. Also, the calculation of estimated fair values is based on market conditions at a specific point in time and may not reflect current or future fair values.



|                                               |  |                |         |                     |   |                |  |                     |         |  |   |        
|---------------------------------------------- |  | -------------- | ------- | ------------------- | - | -------------- |  | ------------------- | ------- |  | - | -------
|                                               |  | 2007           |         | 2006               
|December 31,                                   |  | CarryingAmount |         | Estimated FairValue |   | CarryingAmount |  | Estimated FairValue
|Financial assets                               |  |                |         |                     |   |                |  |                     |         |  |   |        
|Cash and due from banks                        |  | $              | 5,411   |                     | $ | 5,411          |  | $                   | 5,705   |  | $ | 5,705  
|Federal funds sold                             |  |                | 1,588   |                     |   | 1,588          |  |                     | 30,367  |  |   | 30,367 
|Interest bearing balances with banks           |  |                | 11,500  |                     |   | 11,500         |  |                     |        |  |   |       
|Investment securities (total)                  |  |                | 83,123  |                     |   | 83,123         |  |                     | 79,657  |  |   | 79,657 
|Loans, net                                     |  |                | 243,841 |                     |   | 243,550        |  |                     | 219,794 |  |   | 218,518
|Accrued interest receivable                    |  |                | 1,794   |                     |   | 1,794          |  |                     | 1,660   |  |   | 1,660  
|Bank owned life insurance                      |  |                | 3,927   |                     |   | 3,927          |  |                     | 3,775   |  |   | 3,775  
|                                               |  |                |         |                    
|Financial liabilities                          |  |                |         |                     |   |                |  |                     |         |  |   |        
|Noninterest-bearing deposits                   |  | $              | 38,075  |                     | $ | 38,075         |  | $                   | 42,218  |  | $ | 42,218 
|Interest-bearing deposits                      |  |                | 253,514 |                     |   | 253,757        |  |                     | 231,957 |  |   | 231,387
|Securities sold under agreements to repurchase |  |                | 13,337  |                     |   | 13,337         |  |                     | 17,734  |  |   | 17,734 
|Short-term borrowings                          |  |                | 4,170   |                     |   | 4,170          |  |                     |        |  |   |       
|Long-term borrowings                           |  |                | 20,000  |                     |   | 20,042         |  |                     | 30,000  |  |   | 29,841 
|Junior subordinated debt                       |  |                | 5,000   |                     |   | 5,000          |  |                     | 5,000   |  |   | 5,000  
|Accrued interest payable                       |  |                | 288     |                     |   | 288            |  |                     | 234     |  |   | 234    

The fair values of U.S. Treasury and Government agency securities and mortgage backed securities
are determined using market quotations.

The fair value of fixed-rate loans is estimated to be the present value of scheduled payments
discounted using interest rates currently in effect. The fair value of variable-rate loans, including loans with a demand feature, is estimated to equal the carrying amount. The valuation of loans is adjusted for possible credit losses.

The fair value of interest-bearing checking, savings, and money market deposit accounts is equal to the carrying amount. The fair value of
fixed-maturity time deposits is estimated based on interest rates currently offered for deposits of similar remaining maturities.

21. EARNINGS PER
SHARE

A summary of shares outstanding for basic and fully diluted earnings per share is as follows:



|                                                                                  |  |       |  |       |  |      
|--------------------------------------------------------------------------------- |  | ----- |  | ----- |  | -----
|In thousands(000)                                                                 |  | 2007  |  | 2006  |  | 2005 
|Weighted average shares outstanding, basic                                        |  | 4,073 |  | 4,086 |  | 4,063
|Common stock equivalents                                                          |  | 114   |  | 127   |  | 124  
|                                                                                  |  |       |  |       |  |      
|Average common shares and equivalents, fully diluted                              |  | 4,188 |  | 4,213 |  | 4,187
|                                                                                  |  |       |  |       |  |      
|Options outstanding excluded from above as they were Antidilutive at December 31, |  | 53    |  |      |  |     
|                                                                                  |  |       |  |       |  |      



39



---

22. PARENT COMPANY FINANCIAL INFORMATION

The balance sheet and statements of income and cash flows for ANNAPOLIS BANCORP, INC. (Parent Company only) follow:

Balance Sheets



|                                           |  |      |        |   |      |   |        |  
|------------------------------------------ |  | ---- | ------ | - | ---- | - | ------ | -
|December 31,                               |  | 2007 |        |   | 2006 |  
|Assets                                     |  |      |        |   |      |   |        |  
|Cash and due from banks                    |  | $    | 33     |   |      | $ | 19     |  
|Due from subsidiaries                      |  |      |       |   |      |   |       |  
|Investment in subsidiaries                 |  |      | 31,956 |   |      |   | 29,215 |  
|Deferred income taxes and other assets     |  |      | 25     |   |      |   | 49     |  
|                                           |  |      |        |   |      |   |        |  
|Total assets                               |  | $    | 32,014 |   |      | $ | 29,283 |  
|                                           |  |      |        |   |      |   |        |  
|                                           |  |     
|Liabilities and Stockholders Equity       |  |      |        |   |      |   |        |  
|Junior subordinated debt                   |  | $    | 5,155  |   |      | $ | 5,155  |  
|Due to subsidiaries                        |  |      |       |   |      |   |       |  
|Other liabilities                          |  |      | 7      |   |      |   | 7      |  
|                                           |  |     
|Stockholders Equity                       |  |      |        |   |      |   |        |  
|Common stock                               |  |      | 40     |   |      |   | 41     |  
|Paid in capital                            |  |      | 12,589 |   |      |   | 13,309 |  
|Retained earnings                          |  |      | 14,233 |   |      |   | 11,809 |  
|Accumulated other comprehensive (loss)     |  |      | (10    | ) |      |   | (1,038 | )
|                                           |  |      |        |   |      |   |        |  
|Total liabilities and stockholders equity |  | $    | 32,014 |   |      | $ | 29,283 |  
|                                           |  |      |        |   |      |   |        |  



|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|---------------------------------------------- |  | ---- | ----- | - | ---- | - | ----- | ---- |  | - | ----- | -
|Statement of Income                            |  |      |       |   |      |   |       |      |  |   |       |  
|                                               |  |      |      
|Years Ended December 31,                       |  | 2007 |       |   | 2006 |   |       | 2005 | 
|Interest income                                |  | $    |      |   |      | $ |      |      |  | $ |      |  
|Interest expense                               |  |      | 429   |   |      |   | 418   |      |  |   | 327   |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Net interest income                            |  |      | (429  | ) |      |   | (418  | )    |  |   | (327  | )
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Equity in undistributed income of subsidiaries |  |      | 1,713 |   |      |   | 3,144 |      |  |   | 3,211 |  
|Dividends from subsidiary                      |  |      | 1,140 |   |      |   | 200   |      |  |   | 170   |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Total income                                   |  |      | 2,424 |   |      |   | 2,926 |      |  |   | 3,054 |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|                                               |  |      |      
|Noninterest expense                            |  |      |       |   |      |   |       |      |  |   |       |  
|Compensation                                   |  |      | 20    |   |      |   | 37    |      |  |   | 130   |  
|Legal                                          |  |      | 84    |   |      |   | 32    |      |  |   | 26    |  
|Shareholder communications                     |  |      | 117   |   |      |   | 109   |      |  |   | 123   |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Total expense                                  |  |      | 221   |   |      |   | 178   |      |  |   | 279   |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Income before income tax benefit               |  |      | 2,203 |   |      |   | 2,748 |      |  |   | 2,775 |  
|Income tax benefit                             |  |      | (221  | ) |      |   | (203  | )    |  |   | (206  | )
|                                               |  |      |       |   |      |   |       |      |  |   |       |  
|Net income                                     |  | $    | 2,424 |   |      | $ | 2,951 |      |  | $ | 2,981 |  
|                                               |  |      |       |   |      |   |       |      |  |   |       |  



40



---

Statements of Cash Flows



|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|---------------------------------------------------------------------- |  | ---- | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|Years Ended December 31,                                               |  | 2007 |        |   | 2006 |   |        | 2005 | 
|Cash flows from operating activities                                   |  |      |        |   |      |   |        |      |  |   |        |  
|Net income                                                             |  | $    | 2,424  |   |      | $ | 2,951  |      |  | $ | 2,981  |  
|Due from subsidiaries                                                  |  |      | (1     | ) |      |   | (3     | )    |  |   | 3      |  
|Tax benefit received                                                   |  |      | 25     |   |      |   | 8      |      |  |   | (3     | )
|Stock-based compensation                                               |  |      | 70     |   |      |   | 37     |      |  |   | 123    |  
|Shares repurchased                                                     |  |      | (817   | ) |      |   |        |      |  |   |        |  
|Undistributed net income of subsidiary                                 |  |      | (2,853 | ) |      |   | (3,344 | )    |  |   | (3,381 | )
|Net Increase in other assets and liabilities                           |  |      |       |   |      |   | 26     |      |  |   | 20     |  
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|Net cash used in operations                                            |  |      | (1,152 | ) |      |   | (325   | )    |  |   | (257   | )
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|                                                                       |  |      |       
|Cash flows from financing activities                                   |  |      |        |   |      |   |        |      |  |   |        |  
|Dividends received from Bank                                           |  |      | 1,140  |   |      |   | 200    |      |  |   | 170    |  
|Proceeds from stock options exercised and Employee Stock Purchase Plan |  |      | 26     |   |      |   | 101    |      |  |   | 62     |  
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|Net cash provided by financing activities                              |  |      | 1,166  |   |      |   | 301    |      |  |   | 232    |  
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|Net (decrease) increase in cash                                        |  |      | 14     |   |      |   | (24    | )    |  |   | (25    | )
|Cash and equivalents at beginning of year                              |  |      | 19     |   |      |   | 43     |      |  |   | 68     |  
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  
|Cash and equivalents at end of year                                    |  | $    | 33     |   |      | $ | 19     |      |  | $ | 43     |  
|                                                                       |  |      |        |   |      |   |        |      |  |   |        |  



41