**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**


**FORM
        10-Q**





x
            QUARTERLY
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31,
                2008.





OR





o
            TRANSITION
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934 FOR THE TRANSITION PERIOD FROM _______ to
                _______.





**COMMISSION
      FILE NUMBER: 000-25020**





**HERITAGE
      OAKS BANCORP**


(Exact
      name of registrant as specified in charter)





**STATE
                OF CALIFORNIA**
            **77-0388249**(State
                or other jurisdiction of
              incorporation
                or organization)
            (I.R.S.
                Employer Identification No.)




**545
      12th STREET, PASO ROBLES, CA 93446**


(Address
      of principal office) (Zip Code)





**(805)
      369-5200**


(Registrant's
      telephone number, including area code)





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





**YES** **x** **NO** **o**





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





**Large
      Accelerated filer** **o** **Accelerated filer** **x** **Non-accelerated filer** **o** **Smaller Reporting Company** **o**





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





**YES** **o** **NO** **x**





**Indicate
      the number of shares outstanding of each of the issuer's classes of common
      stock, as of the latest practicable date: As of April 28, 2008 there were
      approximately 7,703,030 shares outstanding of the Registrant’s common stock.**










**Table
      Of Contents**





**Part
                1. Financial
                Information****Item
                1. Consolidated Financial Statements (Un-audited, Except For Balance
                Sheet
                As Of 12/31/2007)**
            3**Consolidated
                Balance Sheets**
            4**Consolidated
                Statements of Income**
            5**Consolidated
                Statements of Stockholders’ Equity**
            6**Consolidated
                Statements of Comprehensive Income**
            7**Consolidated
                Statements of Cash Flows**
            8**Notes
                to Consolidated Financial Statements**
            9**Item
                2. Management’s Discussion and Analysis of Financial Condition and Results
                of Operations**
            20**Item
                3. Quantitative and Qualitative Disclosure about Market
                Risk**
            41**Item
                4. Controls and Procedures**
            43**Part
                2. Other Information****Item
                1. Legal Proceedings**
            44**Item
                1.A. Risk Factors**
            44**Item
                2. Unregistered Sales of Equity Securities and Use of
                Proceeds**
            44**Item
                3. Defaults Upon Senior Securities**
            44**Item
                4. Submission of Matters to a Vote of Security
                Holders**
            44**Item
                5. Other Information**
            44**Item
                6. Exhibits**
            45**Signatures**
            46**Certifications****Exhibits**


-
          2
          -


**Part
      1. Financial Information**





**Item
      1. Consolidated Financial Statements**





The
      financial statements and the notes thereto begin on next page.


-
          3
          -


**HERITAGE
      OAKS BANCORP**


**CONSOLIDATED
      BALANCE SHEETS**


*(dollar
      amounts in thousands)*





**(Unaudited)**
            
            **(1)****March 31,**
            
            **December 31,****2008**
            
            **2007****Assets**Cash
                and due from banks
            
            $
            22,217
            
            $
            23,254Federal
                funds sold
            
            
            3,670
            
            
            23,165Total
                cash and cash equivalents
            
            
            25,887
            
            
            46,419Interest
                bearing deposits with other banks
            
            
            330
            
            
            330Securities
                available for sale
            
            
            54,829
            
            
            47,556Federal
                Home Loan Bank stock, at cost
            
            
            3,402
            
            
            3,045Loans
                held for sale
            
            
            2,759
            
            
            902Loans,
                net (2)
            
            
            631,722
            
            
            605,342Property,
                premises and equipment, net
            
            
            6,228
            
            
            6,390Bank
                owned life insurance
            
            
            10,420
            
            
            9,923Deferred
                tax assets
            
            
            5,159
            
            
            5,290Goodwill
            
            
            11,538
            
            
            10,911Core
                deposit intangible
            
            
            4,336
            
            
            4,551Other
                assets
            
            
            4,596
            
            
            4,895**Total
                assets**
            
            $
            761,206
            
            $
            745,554**Liabilities**Deposits:Demand,
                non-interest bearing
            
            $
            155,621
            
            $
            153,684Savings,
                NOW, and money market deposits
            
            
            302,970
            
            
            317,911Time
                deposits of $100 or more
            
            
            47,069
            
            
            75,966Time
                deposits under $100
            
            
            84,795
            
            
            97,247Total
                deposits
            
            
            590,455
            
            
            644,808FHLB
                advances and other borrowed money
            
            
            76,505
            
            
            8,000Securities
                sold under agreement to repurchase
            
            
            2,217
            
            
            1,936Junior
                subordinated debentures
            
            
            13,403
            
            
            13,403Other
                liabilities
            
            
            7,658
            
            
            7,957Total
                liabilities
            
            
            690,238
            
            
            676,104Commitments
                and contingencies
            
            
            -
            
            
            -**Stockholders'
                Equity**Common
                  stock, no par value; 20,000,000 shares authorized; issued and outstanding
                  7,703,030 and 7,317,932 as of March 31, 2008 and December 31, 2007,
                  respectively.
            
            
            48,811
            
            
            43,996Additional
                paid in capital
            
            
            785
            
            
            672Retained
                earnings
            
            
            21,009
            
            
            24,598Accumulated
                other comprehensive income
            
            
            363
            
            
            184Total
                stockholders' equity
            
            
            70,968
            
            
            69,450**Total
                liabilities and stockholders' equity**
            
            $
            761,206
            
            $
            745,554




(1)
            These
                numbers have been derived from the audited financial
                statements.


(2)
            Loans
                net of deferred fees of $1,833 and $1,732 and allowance for loan
                losses of
                $6,305 and $6,143 at March 31, 2008 and December 31, 2007, respectively.




See
      notes
      to condensed consolidated financial statements.


-
          4
          -


**HERITAGE
      OAKS BANCORP**


**CONSOLIDATED
      STATEMENTS OF INCOME (UNAUDITED)**


*(dollar
      amounts in thousands except per share data)*





**For
                the three months****ended
                March 31,****2008**
            
            **2007****Interest
                Income:**Interest and fees on loans
            
            $
            12,091
            
            $
            9,816Investment securities
            
            
            656
            
            
            448Federal funds sold and commercial paper
            
            
            67
            
            
            31Time certificates of deposit
            
            
            3
            
            
            8Total interest income
            
            
            12,817
            
            
            10,303**Interest
                Expense:**Now accounts
            
            
            93
            
            
            28MMDA accounts
            
            
            1,282
            
            
            667Savings accounts
            
            
            131
            
            
            24Time deposits of $100 or more
            
            
            680
            
            
            209Other time deposits
            
            
            900
            
            
            1,212Other borrowed funds
            
            
            611
            
            
            1,129Total interest expense
            
            
            3,697
            
            
            3,269Net
                interest income before provision for possible loan losses
            
            
            9,120
            
            
            7,034Provision for loan losses
            
            
            240
            
            
            140Net
                interest income after provision for loan losses
            
            
            8,880
            
            
            6,894**Non-Interest
                Income:**Service charges on deposit accounts
            
            
            772
            
            
            613Other income
            
            
            667
            
            
            618Total non-interest income
            
            
            1,439
            
            
            1,231**Non-Interest
                Expense:**Salaries and employee benefits
            
            
            4,225
            
            
            3,250Occupancy and equipment
            
            
            1,139
            
            
            715Other expenses
            
            
            2,256
            
            
            1,729Total non-interest expenses
            
            
            7,620
            
            
            5,694Income
                before provision for income taxes
            
            
            2,699
            
            
            2,431Provision for applicable income taxes
            
            
            1,024
            
            
            921Net
                income
            
            $
            1,675
            
            $
            1,510**Earnings
                Per Share:**Basic
            
            $
            0.22
            
            $
            0.23Fully diluted
            
            $
            0.21
            
            $
            0.22





See
      notes
      to condensed consolidated financial statements.


-
          5
          -


**HERITAGE
      OAKS BANCORP**


**CONSOLIDATED
      STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)**


**March
      31, 2008 and 2007**


*(amounts
      in thousands except shares outstanding)*


**Accumulated****Common Stock**
              
              **Additional**
              
              
              
              
              
              **Other**
              
              **Total****Number of**
              
              
              
              **Paid-In**
              
              **Comprehensive**
              
              **Retained**
              
              **Comprehensive**
              
              **Stockholders'****Shares**
              
              **Amount**
              
              **Capital**
              
              **Income**
              
              **Earnings**
              
              **Income**
              
              **Equity****Balance, December
                  31, 2007**
              
              
              7,317,932
              
              $
              43,996
              
              $
              672
              
              
              
              
              $
              24,598
              
              $
              184
              
              $
              69,450Exercise
                  of stock options (including $58 excess tax benefit from exercise
                  of stock
                  options)
              
              
              17,287
              
              
              138
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              1385%
                  Stock Dividend to be distributed May 16, 2008
              
              
              366,811
              
              
              4,677
              
              
              
              
              
              
              
              
              (4,677
              )
              
              
              
              
              -Cash
                  dividends - $0.08 per share
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (587
              )
              
              
              
              
              (587
              )Share-based
                  compensation expense
              
              
              
              
              
              
              
              
              113
              
              
              
              
              
              
              
              
              
              
              
              113Issuance
                  of restricted stock awards
              
              
              1,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              -Comprehensive
                  income:Net
                  income
              
              
              
              
              
              
              
              
              
              
              $
              1,675
              
              
              1,675
              
              
              
              
              
              1,675Unrealized
                  security holding gains
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              179
              
              
              179(net
                  of $125 tax)
              
              
              
              
              
              
              
              
              
              
              
              179Total
                  comprehensive income
              
              
              
              
              
              
              
              
              
              
              $
              1,854**Balance,
                  March 31, 2008**
              
              
              7,703,030
              
              $
              48,811
              
              $
              785
              
              
              
              
              $
              21,009
              
              $
              363
              
              $
              70,968**Balance,
                  December 31, 2006**
              
              
              6,345,639
              
              $
              29,247
              
              $
              336
              
              
              
              
              $
              19,809
              
              $
              80
              
              $
              49,472Exercise
                  of stock options (including $338 excess tax benefit from exercise
                  of stock
                  options)
              
              
              64,190
              
              
              555
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              555Cash
                  dividend - $0.08 per share
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (510
              )
              
              
              
              
              (510
              )Share-based
                  compensation expense
              
              
              
              
              
              
              
              
              92
              
              
              
              
              
              
              
              
              
              
              
              92Issuance
                  of restricted stock awards
              
              
              1,000Stock
                  repurchasedComprehensive
                  income:Net
                  income
              
              
              
              
              
              
              
              
              
              
              $
              1,510
              
              
              1,510
              
              
              
              
              
              1,510Unrealized
                  security holding gains(net
                  of $31 tax)
              
              
              
              
              
              
              
              
              
              
              
              46
              
              
              
              
              
              46
              
              
              46Total
                  comprehensive income
              
              
              
              
              
              
              
              
              
              
              $
              1,556**Balance,
                  March 31, 2007**
              
              
              6,410,829
              
              $
              29,802
              
              $
              428
              
              
              
              
              $
              20,809
              
              $
              126
              
              $
              51,165


See
      notes
      to condensed consolidated financial statements.


-
          6
          -


**HERITAGE
      OAKS BANCORP**


**CONSOLIDATED
      STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)**


*(dollar
      amounts in thousands)*





**For
                the three months****ended
                March 31,****2008**
            
            **2007****Net
                Income**
            
            $
            1,675
            
            $
            1,510**Other
                comprehensive income before taxes:**Unrealized
                gains on securities available for sale:Unrealized
                holding gains arising during the period
            
            
            304
            
            
            77Total
                other comprehensive income before taxes
            
            
            304
            
            
            77Income
                tax (expense) related to items in comprehensive income
            
            
            (125
            )
            
            (31
            )**Total
                other comprehensive income, net of taxes**
            
            
            179
            
            
            46**Comprehensive
                income**
            
            $
            1,854
            
            $
            1,556See
                notes to condensed consolidated financial statements.


-
          7
          -


**HERITAGE
      OAKS BANCORP**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS (UNAUDITED)**


*(dollar
      amounts in thousands)*





******
            
            **For
                the three month periods**************
            
            **ended
                March 31,**************
            
            **2008**
            
            **2007****Cash
                flows from operating activities:**Net
                income
            
            $
            1,675
            
            $
            1,510Adjustments
                to reconcile net income to net cash provided by operating
                activities:Depreciation
                and amortization
            
            
            271
            
            
            265Provision
                for possible loan losses
            
            
            240
            
            
            140Amortization
                of premiums/discounts on investment securities, net
            
            
            (25
            )
            
            (21
            )Federal
                Home Loan Bank stock dividends received
            
            
            (41
            )
            
            (30
            )Amortization
                of intangible assets
            
            
            215
            
            
            89Share-based
                compensation expense
            
            
            113
            
            
            92(Increase)
                in loans held for sale
            
            
            (1,857
            )
            
            (3,536
            )Net
                (increase) in bank owned life insurance
            
            
            (97
            )
            
            (93
            )Decrease/(increase)
                in deferred tax asset
            
            
            6
            
            
            (835
            )Increase/(decrease) in other assets
            
            
            (278
            )
            
            175(Decrease)/increase in other liabilities
            
            
            (241
            )
            
            1,292Excess tax benefit related to share-based compensation
                expense
            
            
            (58
            )
            
            (338
            )**NET
                CASH (USED) IN OPERATING ACTIVITIES**
            
            
            (77
            )
            
            (1,290
            )**********Cash
                flows from investing activities:**Purchase
                of available-for-sale securities
            
            
            (9,923
            )
            
            -Proceeds
                from principal reductions and maturitiesof
                available-for-sale mortgage backed securities
            
            
            1,976
            
            
            923Maturities and calls of available-for-sale securities
            
            
            1,003
            
            
            -Purchase
                of Federal Home Loan Bank stock
            
            
            (316
            )
            
            (705
            )Purchase
                of life insurance policies
            
            
            (400
            )
            
            -(Increase)
                in loans, net
            
            
            (26,620
            )
            
            (21,257
            )Net allowance for loan and lease loss recoveries
            
            
            -
            
            
            92Purchase
                of property, premises and equipment, net
            
            
            (159
            )
            
            (235
            )**NET
                CASH (USED) IN INVESTING ACTIVITIES**
            
            
            (34,439
            )
            
            (21,182
            )**********Cash
                flows from financing activities:**(Decrease)/increase in deposits, net
            
            
            (54,353
            )
            
            24,491Increase
                in Federal Home Loan Bank borrowing
            
            
            68,505
            
            
            10,000Increase
                in repurchase agreements
            
            
            281
            
            
            23Excess tax benefit related to share-based compensation
                expense
            
            
            58
            
            
            338Proceeds
                from exercise of stock options
            
            
            80
            
            
            217Cash
                dividends paid
            
            
            (587
            )
            
            (510
            )**NET
                CASH PROVIDED BY FINANCING ACTIVITIES**
            
            
            13,984
            
            
            34,559**********Net
                (decrease)/increase in cash and cash equivalents**
            
            
            (20,532
            )
            
            12,087**********Cash
                and cash equivalents, beginning of period**
            
            
            46,419
            
            
            23,034**********Cash
                and cash equivalents, end of period**
            
            $
            25,887
            
            $
            35,121**Supplemental
                disclosures of cash flow information:**Interest
                paid
            
            $
            3,922
            
            $
            3,126





See
      notes
      to condensed consolidated financial statements.


-
          8
          -


**Heritage
      Oaks Bancorp**


**Notes
      To Consolidated Financial Statements (Un-Audited)**


**March
      31, 2008**





**Note
      1. Consolidated Financial Statements**





The
      accompanying un-audited condensed consolidated financial statements of Heritage
      Oaks Bancorp and subsidiaries (the “Company”) have been prepared in accordance
      with the instructions to Form 10-Q and Article 10 of Regulation S-X.
      Accordingly, certain information and notes required by accounting principles
      generally accepted in the United States of America for annual financial
      statements are not included herein. In the opinion of Management, all
      adjustments (which consist solely of normal recurring accruals) considered
      necessary for a fair presentation of results for the interim periods presented
      have been included. These interim condensed consolidated financial statements
      should be read in conjunction with the financial statements and related notes
      contained in the Company’s 2007 annual report filed on Form 10-K.





The
      condensed consolidated financial statements include the accounts of the Company
      and its wholly-owned financial subsidiary, Heritage Oaks Bank (the “Bank”). All
      significant inter-company balances and transactions have been eliminated.
      Heritage Oaks Capital Trusts II and III are unconsolidated subsidiaries formed
      solely for the purpose of issuing trust preferred securities. Operating results
      for the three months ended March 31, 2008 are not necessarily indicative of
      the
      results that may be expected for the year ending December 31, 2008. Certain
      amounts in the consolidated financial statements for the year ended December
      31,
      2007 and the three months ended March 31, 2007 may have been reclassified to
      conform to the presentation of the consolidated financial statements in
      2008.





On
      October 12, 2007 the Company acquired Business First National Bank (“Business
      First”). Business First was merged with and into Heritage Oaks Bank, a wholly
      owned subsidiary of the Company. The consideration paid for Business First
      was
      approximately $19.5 million, consisting of approximately 75% common stock and
      25% cash. Business First shareholders received 0.5758 shares of Heritage Oaks
      Bancorp common stock for each share of Business First they owned and $3.44
      per
      share in cash. Upon the acquisition of Business First, the Company issued
      850,213 shares of Heritage Oaks Bancorp common stock and approximately $5.1
      million in cash to the former shareholders of Business First. Upon the date
      of
      the acquisition, the Company added approximately $160.5 million in assets and
      approximately $133.4 million in deposits. The financial position, results of
      operations and cash flows of the Company as of and for the three months ended
      March 31, 2008 reflect the acquisition of Business First.





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





**Note
      2. Investment Securities**





In
      accordance with Statement of Financial Accounting Standards (“SFAS”) No. 115 *“Accounting
      for Certain Investments in Debt and Equity Securities,”* which
      addresses the accounting for investments in equity securities that have readily
      determinable fair values and for investments in all debt securities, securities
      are classified in three categories and accounted for as follows: debt and
      mortgage-backed securities that the Company has the positive intent and ability
      to hold to maturity are classified as held-to-maturity and are measured at
      amortized cost; debt and equity securities bought and held principally for
      the
      purpose of selling in the near term are classified as trading securities and
      are
      measured at fair value, with the unrealized gains and losses included in
      earnings; debt and equity securities not classified as either held-to-maturity
      or trading securities are deemed as available-for-sale and are measured at
      fair
      value, with the unrealized gains and losses, net of applicable taxes, reported
      in a separate component of stockholders’ equity. Any gains and losses on sales
      of investments are computed on a specific identification basis. Premiums and
      discounts are amortized or accreted using the interest method over the lives
      of
      the related securities.


-
          9
          -


The
      following table sets forth the amortized cost and fair values of investment
      securities available for sale at March 31, 2008 and December 31,
      2007:




*(dollars
                in thousands)*
            
            
            
            **Gross**
            
            **Gross****Amortized**
            
            **Unrealized**
            
            **Unrealized**
            
            **Fair****As
                of March 31, 2008**
            
            **Cost**
            
            **Gains**
            
            **Losses**
            
            **Value**Obligations
                of U.S. government agencies and corporations
            
            $
            2,672
            
            $
            45
            
            $
            (3
            )
            $
            2,714Mortgage-backed
                securities
            
            
            34,727
            
            
            224
            
            
            (157
            )
            
            34,794Obligations
                of state and political subdivisions
            
            
            16,704
            
            
            585
            
            
            (77
            )
            
            17,212Other
                securities
            
            
            109
            
            
            -
            
            
            -
            
            
            109Total
            
            $
            54,212
            
            $
            854
            
            $
            (237
            )
            $
            54,829**Gross**
            
            
            **Gross****Amortized**
            
            
            **Unrealized**
            
            
            **Unrealized**
            
            
            **Fair****As
                of December 31, 2007**
            
            
            **Cost**
            
            
            **Gains**
            
            
            **Losses**
            
            
            **Value**Obligations
                of U.S. government agencies and corporations
            
            $
            3,674
            
            $
            12
            
            $
            (6
            )
            $
            3,680Mortgage-backed
                securities
            
            
            26,793
            
            
            71
            
            
            (206
            )
            
            26,658Obligations
                of state and political subdivisions
            
            
            16,667
            
            
            478
            
            
            (36
            )
            
            17,109Other
                securities
            
            
            109
            
            
            -
            
            
            -
            
            
            109Total
            
            $
            47,243
            
            $
            561
            
            $
            (248
            )
            $
            47,556





At
      March
      31, 2008, the fair value of the securities portfolio was approximately $54.8
      million. This, when compared to the $47.6 million reported at December 31,
      2007
      represents an increase of approximately $7.2 million. The change in the fair
      value of the portfolio can be attributable to purchases of securities in the
      approximate amount of $9.9 million as well as proceeds from principal reductions
      and maturities during the first quarter of 2008. At March 31, 2008, the
      securities portfolio had a net unrealized gain of approximately $617 thousand
      or
      $363 thousand, net of tax. This, when compared to the net unrealized gain of
      approximately $313 thousand or $184 thousand, net of tax the portfolio had
      at
      December 31, 2007 represents an increase in market value of approximately $304
      thousand or $179 thousand, net of tax. The increase in market value of the
      securities portfolio during the three months ended March 31, 2008 can be
      attributable in large part to the dramatic decline in interest rates seen during
      the first quarter of this year.





**Note
      3. Loans And The Allowance For Loan Losses**





**March 31,**
            
            **December 31,***(dollars in thousands)*
            
            **2008**
            
            **2007**Commercial,
                financial and agricultural
            
            $
            146,481
            
            $
            146,080Real
                estate - construction
            
            
            143,271
            
            
            118,200Real
                estate - commercial
            
            
            324,050
            
            
            322,928Home
                equity lines of credit
            
            
            17,200
            
            
            17,470Installment
                loans to individuals
            
            
            7,733
            
            
            7,977All
                other loans (including overdrafts)
            
            
            1,125
            
            
            562Total
                loans, gross
            
            
            639,860
            
            
            613,217Deferred
                loan fees
            
            
            1,833
            
            
            1,732Allowance
                for loan losses
            
            
            6,305
            
            
            6,143Total
                loans, net
            
            $
            631,722
            
            $
            605,342Loans
                held for sale
            
            $
            2,759
            
            $
            902


-
          10
          -


*Concentration
      of Credit Risk*





At
      March
      31, 2008, approximately $484.5 million or 75.7% of the Bank’s loan portfolio was
      collateralized by various forms of real estate, this represents an increase
      of
      approximately $25.9 million when compared to the $458.6 million or 74.8%
      reported at December 31, 2007. Such loans are generally made to borrowers
      located in San Luis Obispo and Santa Barbara Counties. The Bank attempts to
      reduce its concentration of credit risk by making loans which are diversified
      by
      project type. While management believes that the collateral presently securing
      this portfolio is adequate, there can be no assurances that significant
      deterioration in the California real estate market would not expose the Bank
      to
      significantly greater credit risk. At March 31, 2008, the Bank was contingently
      liable for letters of credit accommodations made to its customers totaling
      approximately $19.3 million and un-disbursed loan commitments in the approximate
      amount of $181.3 million. The Bank makes commitments to extend credit in the
      normal course of business to meet the financing needs of its customers.
      Commitments to extend credit are agreements to lend to a customer as long as
      there is no violation of any condition established in the contract. Commitments
      generally have fixed expiration dates or other termination clauses and may
      require payment of a fee. Since many of the commitments are expected to expire
      without being drawn upon, the total outstanding commitment amount does not
      necessarily represent future cash requirements. Standby letters of credit
      written are conditional commitments issued by the Bank to guarantee the
      performance of a customer to a third party. The credit risk involved in issuing
      letters of credit is essentially the same as those involved in extending loan
      facilities to customers. The Bank anticipates no losses as a result of such
      transactions.





*Allowance
      for Loan Losses*




An
      allowance for loan losses has been established by Management to provide for
      those loans that may not be repaid in their entirety for a variety of reasons.
      The allowance is maintained at a level considered by Management to be adequate
      to provide for probable incurred losses. The allowance is increased by
      provisions charged to earnings and is reduced by charge-offs, net of recoveries.
      The provision for loan losses is based upon past loan loss experience and
      Management’s evaluation of the loan portfolio under current economic conditions.
      Loans are charged to the allowance for loan losses when, and to the extent,
      they
      are deemed by Management to be un-collectible. The allowance for loan losses
      is
      composed of allocations for specific loans and a historical portion for all
      other loans.





An
      analysis of the changes in the allowance for possible loan losses for the
      periods indicated below is as follows:





**For the three months ended**
            
            **For the year ended***(dollars in thousands)*
            
            **March 31, 2008**
            
            **March 31, 2007**
            
            **December 31, 2007**Balance
                at beginning of period
            
            $
            6,143
            
            $
            4,081
            
            $
            4,081Credit
                from purchase of Business First National Bank
            
            
            -
            
            
            -
            
            
            1,381Additions
                charged to operating expense
            
            
            240
            
            
            140
            
            
            660Loans
                charged off
            
            
            (78
            )
            
            (1
            )
            
            (249
            )Recoveries
                of loans previously charged off
            
            
            -
            
            
            92
            
            
            270Balance
                at end of period
            
            $
            6,305
            
            $
            4,312
            
            $
            6,143








For
      the
      three months ended March 31, 2008, the Company had a net charge-off of
      approximately $78 thousand. During the same period ended in 2007, the Company
      had a net recovery of loans previously charged off in the approximate
      amount of $91 thousand.





The
      Bank
      recognizes that credit losses will be experienced and the risk of loss will
      vary
      with, among other things, general economic conditions; the type of loan being
      made; the creditworthiness of the borrower over the term of the loan and in
      the
      case of a collateralized loan, the quality of the collateral for such loan.
      The
      allowance for loan losses represents the Bank’s estimate of the allowance
      necessary to provide for probable incurred losses in the portfolio. In making
      this determination, the Bank analyzes the ultimate ability to collect the loans
      in its portfolio by incorporating feedback provided by internal loan staff,
      an
      independent loan review function, and information provided by examinations
      performed by regulatory agencies. The Bank makes monthly evaluations as to
      the
      adequacy of the allowance for loan losses.





The
      analysis of the allowance for loan losses is comprised of three components:
      specific credit allocation; general portfolio allocation; and subjectively
      by
      determined allocation. The Bank accounts for problem loans in accordance with
      Statement of Financial Accounting Standards (“SFAS”) No. 114, “ *Accounting
      by Creditors for Impairment of a Loan,”* as
      amended by SFAS No. 118, *“Accounting
      by Creditors for Impairment of a Loan - Income Recognition and
      Disclosures.”* These
      pronouncements provide that when it is probable that a creditor will be unable
      to collect all amounts due in accordance with the terms of the loan that such
      loan is deemed impaired. Impaired loans are accounted for differently in that
      the amount of the impairment is measured and reflected in the records of the
      creditor. The allowance for loan losses related to loans that are identified
      for
      evaluation in accordance with SFAS No. 114 is based on discounted cash flows
      using the loan’s initial effective interest rate or the fair value of the
      collateral for certain collateral dependent loans. The general portfolio
      allocation consists of an assigned reserve percentage based on the credit rating
      of the loan. The subjective portion is determined based on loan history and
      the
      Bank’s evaluation of various factors including current economic conditions and
      trends in the portfolio including delinquencies and impairment, as well as
      changes in the composition of the portfolio.


-
          11
          -


The
      allowance for loan losses is based on estimates, and ultimate losses will vary
      from current estimates. These estimates are reviewed monthly, and as
      adjustments, either positive or negative, become necessary, a corresponding
      increase or decrease is made in the provision for loan losses. The methodology
      used to determine the adequacy of the allowance for possible loan losses for
      the
      three months ended March 31, 2008 is consistent with prior periods. The
      allowance for loan losses as a percentage of total gross loans was 0.99% and
      1.00% as of March 31, 2008 and December 31, 2007, respectively.  Management
      believes that the allowance for loan losses as of March 31, 2008 is prudent
      and
      warranted, based on information currently available.





**Note
      4. Earnings Per Share**





Basic
      earnings per share are based on the weighted average number of shares
      outstanding before any dilution from common stock equivalents. Diluted earnings
      per share reflects the potential dilution that could occur if securities or
      other contracts to issue common stock were exercised or converted into common
      stock or resulted in the issuance of common stock that would then share in
      the
      earnings of the entity.





The
      following table sets forth the number of shares used in the calculation of
      both
      basic and diluted earnings per share for the three months ended March 31, 2008
      and 2007:





**For
                the three months ending****March
                31,****2008**
            
            **2007****Net
                Income**
            
            $
            1,675,107
            
            $
            1,510,333Basic
            
            $
            0.22
            
            $
            0.23Diluted
            
            $
            0.21
            
            $
            0.22**Shares:**Basic
            
            
            7,694,546
            
            
            6,703,358Diluted
            
            
            7,851,831
            
            
            6,936,239





On
      October 12, 2007, the Company issued 850,213 shares of common stock to the
      former shareholders of Business First National Bank. The basic and diluted
      shares presented in the table above for the three months ended March 31, 2008
      reflect the issuance of those shares. Additionally, on April 24, 2008, the
      Company’s Board of Directors announced a 5% stock dividend to be paid on May 16,
      2008 to shareholders of record on May 2, 2008. Share information presented
      in
      the table above has been retroactively adjusted to reflect the 5% stock dividend
      in March 2008.





**Note
      5. Recent Accounting Pronouncements**





In
      July
      2006, the Financial Accounting Standards Board (“FASB”) issued FASB
      Interpretation No. 48, *Accounting
      for Uncertainty in Income Taxes—an interpretation of FASB Statement No.
      109* (“FIN
      48”) which clarifies the accounting and disclosure for uncertainty in tax
      positions, as defined. FIN 48 seeks to reduce the diversity in practice
      associated with certain aspects of the recognition and measurement related
      to
      accounting for income taxes and provides that the tax effects from an uncertain
      tax position be recognized in the financial statements only if, based on its
      merits, the position is more likely than not to be sustained in audit by the
      taxing authorities. This interpretation is effective for fiscal years beginning
      after December 15, 2006. Effective January 1, 2007, the Company adopted FIN
      48.  Management believes that all tax positions taken as of March 31, 2008
      are highly certain and, accordingly, no accounting adjustments have been made
      to
      the financial statements.





In
      September 2006, the FASB issued SFAS No. 157, “ *Fair
      Value Measurements.”* SFAS No.
      157 enhances existing guidance for measuring assets and liabilities using fair
      value. Prior to the issuance of SFAS No. 157, guidance for applying fair value
      was incorporated in several accounting pronouncements. SFAS No. 157 provides
      a
      single definition of fair value, together with a framework for measuring it,
      and
      requires additional disclosure about the use of fair value to measure assets
      and
      liabilities. SFAS No. 157 also emphasizes that fair value is a market-based
      measurement, not an entity-specific measurement, and sets forth a fair value
      hierarchy with the highest priority being quoted prices in active markets.
      Under
      SFAS No. 157, fair value measurements are disclosed by level within that
      hierarchy. While SFAS No. 157 does not add any new fair value measurements,
      it
      does change current practice. Changes to practice include: (1) a
      requirement for an entity to include its own credit standing in the measurement
      of its liabilities; (2) a modification of the transaction price
      presumption; (3) a prohibition on the use of block discounts when valuing
      large blocks of securities for broker-dealers and investment companies; and
      (4) a requirement to adjust the value of restricted stock for the effect of
      the restriction even if the restriction lapses within one year. SFAS No. 157
      is
      effective for financial statements issued for fiscal years beginning after
      November 15, 2007, and interim periods within those fiscal years. Effective
      January 1, 2008, the Company adopted SFAS No. 157. The adoption of this standard
      has not had a material impact on the Company’s financial position, results of
      operations or cash flows.


-
          12
          -


In
      September 2006, the FASB issued SFAS No. 158, “ *Employers’
      Accounting for Defined Benefit Pension and Other Postretirement Plans (an
      amendment of FASB Statements No. 87, 88, 106, and 132R).”
S* FAS
      No.
      158, requires an employer to: (1) Recognize in its statement of financial
      position an asset for a plan’s over funded status or a liability for a plan’s
      under funded status; (2) measure a plan’s assets and its obligations that
      determine its funded status as of the end of the employer’s fiscal year (with
      limited exceptions); and (3) recognize changes in the funded status of a
      defined benefit postretirement plan in the year in which the changes occur.
      Those changes will be reported in comprehensive income of a business entity
      and
      in changes in net assets of a not-for-profit organization. The requirement
      by
      SFAS No. 158 to recognize the funded status of a benefit plan and the disclosure
      requirements of SFAS No. 158 are effective as of the end of the fiscal year
      ending after December 15, 2006 for entities with publicly traded equity
      securities. The Company adopted this portion of the pronouncement effective
      January 1, 2007. The adoption of this portion has not had a material impact
      on
      the financial position, results of operation or cash flows of the Company.
      The
      requirement to measure plan assets and benefit obligations as of the date of
      the
      employer’s fiscal year-end statement of financial position is effective for
      fiscal years ending after December 15, 2008. The adoption of SFAS No. 158
      did not have a material effect on the financial position of the company.





In
      February 2007, the FASB
      issued SFAS No. 159, *“Establishing
      the Fair Value Option for Financial Assets and Liabilities.”* The FASB
      has issued SFAS No. 159 to permit all entities to choose to elect, at specified
      election dates, to measure eligible financial instruments at fair value. An
      entity shall report unrealized gains and losses on items for which the fair
      value option has been elected in earnings at each subsequent reporting date,
      and
      recognize upfront costs and fees related to those items in earnings as incurred
      and not deferred. SFAS No. 159 applies to fiscal years beginning after November
      15, 2007, with early adoption permitted for an entity that has also elected
      to
      apply the provisions of SFAS No. 157, Fair Value Measurements. An entity is
      prohibited from retrospectively applying SFAS No. 159, unless it chooses early
      adoption. SFAS No. 159 also applies to eligible items existing at November
      15,
      2007 (or early adoption date). The Company adopted SFAS No. 159 on January
      1,
      2008, and chose not to measure certain eligible financial instruments at
      their fair values and as a result the adoption of SFAS No. 159 did not have
      a
      material impact on its financial position, results of operations or cash
      flows.





In
      December 2007, the FASB issued SFAS No. 141 (revised), *“Business
      Combinations.”* SFAS No.
      141(R) changes the accounting for business combinations including the
      measurement of acquirer shares issued in consideration for a business
      combination, the recognition of contingent consideration, the accounting for
      pre-acquisition gain and loss contingencies, the recognition of capitalized
      in-process research and development, the accounting for acquisition-related
      restructuring cost accruals, the treatment of acquisition related transaction
      costs and the recognition of changes in the acquirer’s income tax valuation
      allowance. The Company is required to adopt SFAS No. 141(R) no later than
      January 1, 2009. The Company has not yet determined the impact SFAS No. 141(R)
      may have on its financial position, results of operations or cash flows.





In
      December 2007, the FASB issued SFAS No. 160, *“Non-controlling
      Interests in Consolidated Financial Statements, an amendment of ARB
      No. 51* . *”* SFAS No.
      160 changes the accounting for non-controlling (minority) interests in
      consolidated financial statements including the requirements to classify
      non-controlling interests as a component of consolidated stockholders’ equity,
      and the elimination of “minority interest” accounting in results of operations
      with earnings attributable to non-controlling interests reported as part of
      consolidated earnings. Additionally, SFAS No. 160 revises the accounting for
      both increases and decreases in a parent’s controlling ownership interest. The
      Company must adopt SFAS No. 160 no later than January 1, 2009. The Company
      has
      not yet determined the impact SFAS No. 160 may have on its financial position,
      results of operations or cash flows.




In
      February 2008, the FASB issued FASB Staff Position (“FSP”) FAS 157-1,
“ *Application
      of FASB Statement No. 157 and Other Accounting Pronouncements That Address
      Fair
      Value Measurements for Purposes of Lease Classification or Measurement Under
      Statement 13* ,”
and
      FSP FAS 157-2, “ *Effective
      Date of FASB Statement No. 157.* ”
FSP
      FAS
      157-1 removes leasing from the scope of SFAS No. 157, “ *Fair
      Value Measurements.* ”
FSP
      FAS
      157-2 delays the effective date of SFAS No. 157 from 2008 to 2009 for all
      non-financial assets and non-financial liabilities, except those that are
      recognized or disclosed at fair value in the financial statements on a recurring
      basis (at least annually). The Company does not expect the implementation of
      FSP
      157-1 to have a material impact on its financial position, results of
      operations, or cash flows. Additionally, in accordance with FSP 157-2 the
      Company will delay the application of SFAS No. 157 for non-financial assets
      and
      non-financial liabilities until January 1, 2009 and does not expect the
      application to have a material impact on the Company’s financial position,
      results of operations, or cash flows.


-
          13
          -




In
      March
      2008, the FASB issued SFAS No. 161, *“Disclosures
      about Derivative Instruments and Hedging Activities - an amendment of FASB
      Statement No. 133,”* which
      amends and expands the disclosure requirements of SFAS No. 133 with the intent
      to provide users of financial statements with an enhanced understanding of:
      how
      and why an entity uses derivative instruments; how derivative instruments and
      related hedged items are accounted for under SFAS No. 133 and its related
      interpretations; and how derivative instruments and related hedged items affect
      an entity’s financial position, results of operations, and cash flows. To meet
      those objectives, this Statement requires qualitative disclosures about
      objectives and strategies for using derivatives, quantitative disclosures about
      fair value amounts of and gains and losses on derivative instruments, and
      disclosures about credit-risk-related contingent features in derivative
      agreements. This Statement is effective for fiscal and interim periods after
      November 15, 2008 with earlier adoption encouraged. Disclosures will not be
      required retrospectively to prior reporting periods. The Company has elected
      to
      adopt SFAS No. 161 effective January 1, 2009. We have not yet determined
      the impact that the adoption of SFAS No. 161 may have on our financial position,
      results of operations and cash flows.





**Note
      6. Share-Based Compensation**





As
      of
      March 31, 2008, the Company had two share-based employee compensation plans,
      which are more fully described in Note 14 of the Consolidated Financial
      Statements in the Company's Annual Report filed on Form 10-K for the year ended
      December 31, 2007. These plans include the “1997 Stock Option Plan” and the
“2005 Equity Based Compensation Plan.”





Effective
      January 1, 2006, the Company adopted the fair value recognition provisions
      of
      SFAS No. 123(R), using the modified prospective transition method and,
      therefore, have not restated results for prior periods.





Prior
      to
      January 1, 2006, the Company accounted for stock-based compensation under the
      recognition, measurement and pro forma disclosure provisions of APB No. 25,
      the
      original provisions of SFAS No. 123, and SFAS No. 148, "Accounting for
      Stock-Based Compensation-Transition and Disclosure." No share-based compensation
      expense was reflected in net income as all options are required by the plan
      to
      be granted with an exercise price equal to the estimated fair value of the
      underlying common stock on the date of grant. Additionally, prior to the
      adoption of SFAS No. 123(R), the Company presented the tax benefit of stock
      option exercises as operating cash flows, upon the adoption of SFAS No. 123(R),
      tax benefits resulting from tax deductions in excess of the compensation cost
      recognized for those options are classified as financing cash
      flows.





Share-based
      compensation expense for all share-based compensation awards granted after
      January 1, 2006, is based on the grant-date fair value. For all awards except
      stock option awards, the grant date fair value is either the fair market value
      per share or book value per share (corresponding to the type of stock awarded)
      as of the grant date. For stock option awards, the grant date fair value is
      estimated using the Black-Scholes option pricing model. For all awards, the
      Company recognizes these compensation costs only for those shares expected
      to
      vest on a straight-line basis over the requisite service period of the award,
      for which we use the related vesting term. The Company estimates forfeiture
      rates based on historical employee option exercise and employee termination
      experience.





The
      share-based compensation expense recognized in the condensed consolidated
      statements of income for the three months ended March 31, 2008 and 2007 is
      based
      on awards ultimately expected to vest, and accordingly has been adjusted by
      the
      amount of estimated forfeitures. SFAS No. 123(R) requires forfeitures to be
      estimated at the time of grant and revised, if necessary, in subsequent periods
      if actual forfeitures differ from those estimates. Forfeitures were estimated
      based partially on historical experience.


-
          14
          -


The
      following table provides a summary of the expenses the Company has recognized
      related to share-based compensation awards as well as the impact those expenses
      have had on diluted earnings per share for the periods indicated below:





**For
                the three months ended****March
                31,***(dollars
                in thousands except share and per share data)*
            
            **2008**
            
            **2007****Share-based
                compensation expense:**Stock
                option expense
            
            $
            50
            
            $
            28Restricted
                stock expense
            
            
            63
            
            
            64Total
                share-based compensation expense
            
            
            113
            
            $
            92Total
                share-based compensation expense, net of tax
            
            $
            75
            
            $
            63Diluted
                shares outstanding
            
            
            7,851,831
            
            
            6,936,239Impact
                on diluted earnings per share
            
            $
            0.010
            
            $
            0.009**Unrecognized
                compensation expense:**Stock
                option expense
            
            $
            418
            
            $
            199Restricted
                stock expense
            
            
            736
            
            
            985Total
                unrecognized share-based compensation expense
            
            $
            1,154
            
            $
            1,184Total
                unrecognized share-based compensation expense, net of tax
            
            $
            712
            
            $
            763





At
      March
      31, 2008, there was a total of $418 thousand of unrecognized compensation
      expense related to non-vested stock option awards. That expense is expected
      to
      be recognized over a weighted-average period of 1.41 years.





The
      Company grants restricted share awards periodically for the benefit of
      employees. These restricted shares generally “cliff vest” after five years of
      issuance. Recipients of restricted shares have the right to vote all shares
      subject to such grant, and receive all dividends with respect to such shares,
      whether or not the shares have vested. Recipients do not pay any cash
      consideration for the shares. The total unrecognized compensation expense
      related to restricted share awards at March 31, 2008 was $736 thousand. That
      expense is expected to be recognized over the next 2.9 years.





The
      aggregate intrinsic value in the table below represents the total pretax
      intrinsic value (the difference between the Company’s closing stock price on the
      last trading day of the first quarter of 2008 and the exercise price, multiplied
      by the number of in-the-money options that would have been received by the
      option holders had all option holders exercised their options on March 31,
      2008). The aggregate pretax intrinsic value is subject to change based on the
      fair market value of the Company's stock. The aggregate intrinsic value of
      options exercised for the three month periods ended March 31, 2008 and 2007
      was
      $142 thousand and $821 thousand, respectively.


-
          15
          -




The
      following table provides a summary of the aggregate intrinsic value of options
      outstanding and exercisable as well as options granted, exercised, and forfeited
      during the year-to-date period ended March 31, 2008 and 2007:





**Average****Weighted**
            
            **Remaining**
            
            **Total****Average**
            
            **Contractual**
            
            **Intrinsic****Number of**
            
            **Exercise**
            
            **Term**
            
            **Value****Shares**
            
            **Price**
            
            **(in years)**
            
            **(in 000's)**Options
                outstanding, January 1, 2008
            
            
            463,149
            
            $
            8.33Granted
            
            
            26,250
            
            
            11.45Exercised
            
            
            (18,151
            )
            
            4.33Forfeited
            
            
            (3,572
            )
            
            5.66Options
                outstanding, March 31, 2008
            
            
            467,675
            
            $
            8.68
            
            
            4.56
            
            $
            1,749Exercisable
                at March 31, 2008
            
            
            372,882
            
            $
            7.60
            
            
            3.50
            
            $
            1,694Options
                outstanding, January 1, 2007
            
            
            455,104
            
            $
            5.18Granted
            
            
            -
            
            
            -Exercised
            
            
            (67,400
            )
            
            3.22Forfeited
            
            
            (1,045
            )
            
            10.24Options
                outstanding, March 31, 2007
            
            
            386,659
            
            $
            5.50
            
            
            3.78
            
            $
            4,439Exercisable
                at March 31, 2007
            
            
            334,133
            
            $
            4.75
            
            
            3.27
            
            $
            4,088





During
      the first quarter of 2008, 26,250 options were granted to members of the
      Company’s Board of Directors excluding the one inside Director. The following
      table presents the assumptions used in the calculation of the weighted average
      fair value of those options on the date of grant using the Black-Scholes options
      pricing model:




**February****2008**Expected
                volatility
            
            
            35.07
            %Expected
                term (years)
            
            
            10Dividend
                yield
            
            
            2.66
            %Risk
                free rate
            
            
            3.62
            %Weighted-average
                grant date fair value
            
            $
            3.93





**Note
      7. Fair Value Of Financial Instruments**





Effective
      January 1, 2008, the Company determines the fair market values of certain
      financial instruments based on the fair value hierarchy established in SFAS
      No.
      157, *“Fair
      Value Measurements,”* which
      requires an entity to maximize the use of observable inputs and minimize the
      use
      of unobservable inputs when measuring fair value. The standard describes three
      levels of inputs that may be used to measure fair value.





The
      following provides a summary of the hierarchical levels, as defined by SFAS
      No.
      157, used to measure fair value:





Level
      1 -
      Quoted prices in active markets for identical assets or liabilities that the
      reporting entity has the ability to access at the measurement date. Level 1
      assets and liabilities may include debt and equity securities that are traded
      in
      an active exchange market and that are highly liquid and are actively traded
      in
      over-the-counter markets.





Level
      2 -
      Observable inputs other than Level 1 prices, such as quoted prices for similar
      assets or liabilities; quoted prices in markets that are not active; or other
      inputs that are observable or can be corroborated by observable market data
      for
      substantially the full term of the assets or liabilities. Level 2 assets and
      liabilities may include debt securities with quoted prices that are traded
      less
      frequently than exchange-traded instruments and other instruments whose value
      is
      determined using a pricing model with inputs that are observable in the market
      or can be derived principally from or corroborated by observable market data.
      This category generally includes U.S. Government and agency mortgage-backed
      debt
      securities, corporate debt securities, derivative contracts, residential
      mortgage and loans held-for-sale.


-
          16
          -


Level
      3 -
      Unobservable inputs that are supported by little or no market activity and
      that
      are significant to the fair value of the assets or liabilities. Level 3 assets
      and liabilities include financial instruments whose value is determined using
      pricing models, discounted cash flow methodologies, or similar techniques,
      as
      well as instruments for which the determination of fair value requires
      significant management judgment or estimation. This category generally includes
      certain private equity investments, retained residual interests in
      securitizations, residential MSRs, asset-backed securities (ABS), highly
      structured or long-term derivative contracts and certain collateralized debt
      obligations (CDO) where independent pricing information was not able to be
      obtained for a significant portion of the underlying assets.





*Fair
      Value Measurements*





The
      Company used the following methods and significant assumptions to estimate
      fair
      value:





·
            ***Securities***





The
      fair
      value of securities available-for-sale are determined by obtaining quoted prices
      on nationally recognized exchanges or matrix pricing which is a mathematical
      technique used widely in the industry to value debt securities without relying
      exclusively on quoted prices for the specific securities but rather relying
      on
      the security’s relationship to other benchmark quoted securities.





·
            ***Loans
                Held For Sale***





The
      fair
      value of loans held for sale is determined, when possible, using quoted
      secondary market prices. If no such quoted price exists, the fair value of
      the
      loan is determined using quoted prices for a similar asset or assets, adjusted
      for the specific attributes of that loan.





·
            ***Impaired
                Loans***





A
      loan is
      considered impaired when it is probable that payment of interest and principal
      will not be made in accordance with the contractual terms of the loan agreement.
      Impairment is measured based on the fair value of the underlying collateral
      or
      the discounted expected future cash flows. The Company measures impairment
      on
      all non-accrual loans for which it has established specific reserves as part
      of
      the specific allocated allowance component of the allowance for loan losses.
      As
      such, the Company records impaired loans as non-recurring Level 2 when the
      fair
      value of the underlying collateral is based on an observable market price or
      current appraised value. When current market prices are not available or the
      Company determines that the fair value of the underlying collateral is further
      impaired below appraised values, the Company records impaired loans as
      non-recurring Level 3. At March 31, 2008, substantially all of the Company’s
      impaired loans were evaluated based on the fair value of their underlying
      collateral based upon the most recent appraisal available to
      Management.





The
      following table provides a summary of the financial instruments the Company
      measures at fair value on a recurring basis:





**Fair
                Value Measurments Using****Assets
                At***(dollars
                in thousands)*
            
            **Level
                1**
            
            **Level
                2**
            
            **Level
                3**
            
            **Fair
                Value****Assets:**Available
                for sale investment securities
            
            $
            10,243
            
            $
            43,847
            
            $
            739
            
            $
            54,829Total
                assets measured on a recurring basis
            
            $
            10,243
            
            $
            43,847
            
            $
            739
            
            $
            54,829


-
          17
          -


The
      following table provides a summary of the changes in balance sheet carrying
      values associated with Level 3 financial instruments during the quarter ended
      March 31, 2008:





**Available For****Sale Investment***(dollars in thousands)*
            
            **Securities**Beginning
                balance
            
            $
            712Total
                gains or losses (realized/unrealized)**(1)**:Included
                in earnings
            
            
            -Included
                in other comprehensive income
            
            
            27Purchases
            
            
            -Transfers
                in and/or out of Level 3
            
            
            -Ending
                balance
            
            $
            739





**(1)** Realized
      or unrealized gains from the changes in values of Level 3 financial instruments
      represent gains from changes in values of financial instruments only for the
      period(s) in which the instruments were classified as Level 3.





The
      assets presented under level 3 of the fair value hierarchy described in SFAS
      No.
      157 represent available for sale investment securities in the form of
      certificates of participation where an active market for such securities is
      not
      currently available.





The
      following table provides a summary of the financial instruments the Company
      measures at fair value on a non-recurring basis:





**Fair
                Value Measurments Using****Assets
                At***(dollars
                in thousands)*
            
            **Level
                1**
            
            **Level
                2**
            
            **Level
                3**
            
            **Fair
                Value****Assets:**Impaired
                loans
            
            $
            -
            
            $
            1,544
            
            $
            -
            
            $
            1,544Loans
                held for sale
            
            
            -
            
            
            2,759
            
            
            -
            
            
            2,759Total
                assets measured on a non-recurring basis
            
            $
            -
            
            $
            4,303
            
            $
            -
            
            $
            4,303





In
      addition to the assets presented in the table above, the Company uses fair
      value
      measurements on a non-recurring basis in its assessment of assets classified
      as
      Goodwill. These assets are recorded at fair value initially and assessed for
      impairment periodically thereafter. During the fiscal year ended December 31,
      2007, the carrying amount of goodwill assets were compared to their fair value.
      No change in carrying amount resulted in accordance with the provisions of
      SFAS
      No. 142, *“Goodwill
      and Other Intangible Assets* . *”* Additionally, the Company has certain other loans that are measured at fair
      value on a non-recurring basis such as loans that were acquired in the
      acquisition of Business First National Bank.





**Note
      8. Reclassifications**





Certain
      amounts in the 2007 financial statements have been reclassified to conform
      to
      the 2008 presentation.


-
          18
          -


**Forward
      Looking Statements**





**Certain
      statements contained in this Quarterly Report on Form 10-Q (“Quarterly Report”),
      including, without limitation, statements containing the words “believes”,
“anticipates”, “intends”, “expects”, and words of similar impact, constitute
“forward-looking statements” within the meaning of Section 27A of the Securities
      Act of 1933 and Section 21E of the Securities and Exchange Act of 1934. Such
      forward-looking statements involve known and unknown risks, uncertainties and
      other factors that may cause the actual results, performance or achievements
      of
      the Company to be materially different from any future results, performance
      or
      achievements expressed or implied by such forward-looking statements. Such
      factors include, among others, the following: the recent fluctuations in U.S.
      markets resulting, in part, from problems related to sub-prime lending, the
      recent downturn in the California real-estate market, general economic and
      business conditions in those areas in which the Company operates, demographic
      changes, competition, fluctuations in interest rates, changes in business
      strategy or development plans, changes in governmental regulation, credit
      quality, the availability of capital to fund the expansion of the Company’s
      business, as well as economic, political and global changes arising from the
      war
      on terrorism (Refer to the Company’s December 31, 2007 10K, ITEM 1A. Risk
      Factors). The Company disclaims any obligation to update any such factors or
      to
      publicly announce the results of any revisions to any of the forward-looking
      statements contained herein to reflect future events or
      developments.**


-
          19
          -


**Item
      2. Management’s Discussion And Analysis Of Financial Condition And Results Of
      Operations**





The
      following is an analysis of the results of operations and financial condition
      of
      the Company for the periods ending March 31, 2008 and 2007. The analysis should
      be read in connection with the consolidated financial statements and notes
      thereto appearing elsewhere in this report.





*The
      Company*





Heritage
      Oaks Bancorp (the "Company") is a California corporation organized in 1994
      to
      act as a holding company of Heritage Oaks Bank ("Bank"), a 15 branch bank
      serving San Luis Obispo and Santa Barbara Counties. In 1994, the Company
      acquired all of the outstanding common stock of the Bank in a holding company
      formation transaction.





In
      October 2006, the Company formed Heritage Oaks Capital Trust II (the “Trust”).
      The Trust is a statutory business trust formed under the laws of the State
      of
      Delaware. The Trust is a wholly-owned, non-financial, non-consolidated
      subsidiary of the Company.





In
      September 2007, the Company formed Heritage Oaks Capital Trust III (the
“Trust”). The Trust is a statutory business trust formed under the laws of the
      State of Delaware. The Trust is a wholly-owned, non-financial, non-consolidated
      subsidiary of the Company.





On
      October 12, 2007, the Company acquired Business First National Bank (“Business
      First”). Business First was merged with and into Heritage Oaks Bank, a wholly
      owned subsidiary of the Company. In connection with the acquisition, two
      additional branches were added to the Bank’s network. For additional information
      regarding this acquisition, please see Note 1 to the consolidated financial
      statements filed on this Form 10-Q as well as Note 22 to the consolidated
      financial statements of the Company’s 2007 annual report, which was filed on
      Form 10-K.





Other
      than holding the shares of the Bank, the Company conducts no significant
      activities, although it is authorized, with the prior approval of the Board
      of
      Governors of the Federal Reserve System (the "Federal Reserve Board"), the
      Company's principal regulator, to engage in a variety of activities which are
      deemed closely related to the business of banking. The Company has also caused
      to be incorporated a subsidiary, CCMS Systems, Inc. which is currently inactive
      and has not been capitalized. The Company has no present plans to activate
      the
      proposed subsidiary.





*Where
      You Can Find More Information*





Under
      the
      Securities Exchange Act of 1934 Sections 13 and 15(d), periodic and current
      reports must be filed with the SEC. The Company electronically files the
      following reports with the SEC: Form 10-K (Annual Report), Form 10-Q (Quarterly
      Report), Form 8-K (Current Report), and Form DEF 14A (Proxy Statement). The
      Company may file additional forms. The SEC maintains an internet site,
      www.sec.gov, in which all forms filed electronically may be accessed.
      Additionally, all forms filed with the SEC and additional shareholder
      information is available free of charge on the Company’s website:
      www.heritageoaksbancorp.com.





The
      Company posts these reports to its website as soon as reasonably practicable
      after filing them with the SEC. None of the information on or hyperlinked from
      the Company’s website is incorporated into this Quarterly Report on Form
      10-Q.


-
          20
          -


**Executive
      Summary And Recent Developments**





*Earnings
      and Financial Condition Overview*





For
      the
      three months ended March 31, 2008, the Company earned $1.7 million or $0.21
      per
      diluted share. This, when compared to the $1.5 million or $0.22 per diluted
      share the Company earned in the same period a year ago, represents an increase
      in net income of approximately $0.2 million or 10.9%. The year over year decline
      in diluted earnings per share can be attributed to shares the Company issued
      during the fourth quarter of 2007 in connection with the acquisition of Business
      First. For additional information related to the Company’s 2007 acquisition of
      Business First, see Note 1 to the consolidated financial statements filed on
      this Form 10-Q as well as Note 22 to the consolidated financial statements
      of
      the Company’s 2007 annual report filed on Form 10-K. Additionally, when viewing
      data as of and for the period ended March 31, 2008, it is important to consider
      that Business First was acquired on October 12, 2007. Therefore, the Company’s
      financial position and results of operations will not reflect the acquisition
      as
      of and for the period ended March 31, 2007.





The
      following provides financial highlights as of and for the three months ended
      March 31, 2008:





·
            Total
                interest income increased approximately $2.5 million or 24.4% over
                the
                same period ended a year earlier. This can be attributed to higher
                loan
                balances in connection with the acquisition of Business First as
                well as
                organic loan growth. At March 31, 2008, gross loan balances were
                approximately $173.6 million higher than a year ago, of which
                approximately $159.4 million can be attributed to the acquisition
                of
                Business First.





·
            Interest
                expense increased approximately $0.4 million or 13.1% over the same
                period
                ended a year earlier. The modest increase in interest expense can
                be
                attributable to higher deposit balances on a year over year basis
                in the
                approximate amount of $145.4 million, primarily as a result of the
                acquisition of Business First, and from promotions the Bank had in
                place
                for the majority of 2007 designed to attract lower cost sources of
                funding. However, the dramatic decline in the overnight Fed Funds
                rate
                from late in the third quarter of 2007 has led the Bank to significantly
                re-price its deposits, resulting in only a slight increase in interest
                expense year over year.





·
            Net
                interest income increased approximately $2.1 million or 29.7% from
                the
                same period ended a year earlier due in large part to the items mentioned
                above.





·
            Non-interest
                income increased approximately $0.2 million or 16.9% from the same
                period
                ended a year earlier, which is largely attributable to increases
                in
                services charges on deposit accounts stemming from the additional
                deposit
                relationships the Bank obtained during 2007 as well as the acquisition
                of
                Business First.





·
            Non-interest
                expenses increased approximately $1.9 million or 33.8% from the same
                period ended a year earlier. The increase in this category can be
                attributable in large part to higher salaries and employee benefits
                stemming from branch expansion and additional staff in the first
                quarter
                of 2008 from the acquisition of Business First necessary to assist
                in the
                integration of the two banks. Additionally, higher occupancy and
                equipment
                expenses contributed to the increase within this category as a result
                of
                branch expansion and the acquisition of Business
                First.





·
            At
                March 31, 2008, the acquisition of Business First accounts for the
                addition of nearly $160.5 million in assets along with approximately
                $13.8
                million in equity over that which was reported at March 31, 2007.
                Because
                of this, return on average assets was 0.91% in the first quarter
                of 2008
                compared to 1.10% in the first quarter of 2007. Return on average
                equity
                was 9.55% for the first quarter compared to 12.10% in the first quarter a
                year ago. The pro forma for the acquisition of Business First forecast
                the
                transaction to be accretive to earnings per share by the end of
                2008.





·
            The
                Company’s net interest margin for the first quarter of 2008 was 5.33%,
                this when compared to the 5.66% the Company reported for the same
                period
                ended a year earlier, represents a decline of approximately 33 basis
                points. The decline in the net interest margin on a year over year
                basis
                can be attributed to significantly higher interest earning assets
                stemming
                from the Business First acquisition and organic loan growth in conjunction
                with an approximate 78 basis point decline in the yield earned on
                those
                assets, resulting from the dramatic decline in interest rates previously
                mentioned.





·
            For
                the three months ended March 31, 2008 the Company’s operating efficiency
                ratio was 72.17%. This, when compared to the 68.89% the Company reported
                for the same period ended a year earlier, represents an increase
                of
                approximately 328 basis points. The year over year increase in the
                efficiency ratio can be attributed in large part to the increases
                in
                non-interest expenses previously
                mentioned.


-
          21
          -


At
      March
      31, 2008, total assets were $761.2 million. This represents an increase of
      approximately $15.7 million or 2.1% when compared to the $745.6 million reported
      at December 31, 2007.





·
            Net
                loan balances were $631.7 million at March 31, 2008. This, when compared
                to the $605.3 million reported at the end of 2007, represents an
                increase
                of approximately $26.4 million or
                4.4%.





·
            Total
                deposit balances were $590.5 million at March 31, 2008, which represents
                a
                decline of approximately $54.4 million or 8.4% from the $644.8 million
                reported at December 31, 2007. The year to date decline in deposit
                balances can be attributable in large part to the dramatic decline
                in
                interest rates seen during the first quarter of 2008 as well as
                approximately $10.7 million related to the call of brokered certificates
                of deposit during the quarter, which were at an average rate of 5.4%.
                As
                the Bank moved to match the declines in the overnight Fed Funds rate
                made
                by the Federal Open Market Committee (“FOMC”), we experienced declines in
                deposit balances, particularly with respect to non-core promotional
                deposit products. The decrease in certificates of deposit was by
                design in
                that there was more than ample availability of FHLB borrowing at
                an
                average rate nearly 150 basis points less than market rates on the
                certificates of deposit.





·
            Federal
                Home Loan Bank and other borrowings were $71.5 million at March 31,
                2008.
                When compared to the $8.0 million reported at the end of 2007, this
                represents an increase of approximately $63.5 million. The large
                increase
                in wholesale borrowing is attributed in large part to the decline
                in
                deposit balances mentioned above.





·
            At
                March 31, 2008, the allowance for loan losses stood at $6.3 million.
                As a
                percentage of total gross and non-accruing loan balances, the allowance
                for loan losses was 0.99% and 408.4%,
                respectively.





*Recent
      Developments*





As
      part
      of its announced program to pro-actively manage loan deterioration in the
      current economic environment, Management is continuing its assessment of loans
      that are collateralized by real estate, specifically construction and land
      loans, for signs of credit weakness and/or deterioration in underlying
      collateral value. At this time, in addition to the loans reported as
      non-performing for the period ending March 31, 2008, Management has identified
      6
      spec construction loans that exhibit signs of deterioration including cost
      over-runs, declining values and lack of borrower/guarantor liquidity. These
      loans plus four other loans that are collateralized by real estate total
      approximately $11.0 million and are being placed on non-accrual status as of
      May
      9, 2008. The spec construction loans are being monitored closely for completion
      and sale of each residence. New appraisals have been ordered on all of the
      properties to determine the current fair market value, however, in the interim
      Management has performed an evaluation predicated on the original appraisals,
      reducing them by 20% and estimating an additional 8% for sale costs for each
      loan. After this preliminary analysis, it has been determined that there is
      potential impairment of approximately $630 thousand on these loans for which
      a
      valuation allowance was created on May 8, 2008. Analysis of fair value has
      been completed on the $1.5 million non-performing loans that were reported
      as of
      March 31, 2008 and the Bank has charged off one loan in full at a total of
      approximately $290 thousand. The reduction in the reserve for loan loss is
      being
      off-set by additional provisions that have occurred subsequent to the results
      of
      the first quarter of 2008 during the month of April 2008. During April 2008,
      a
      loan loss provision of $375 thousand was made and the Bank also received a
      recovery of approximately $101 thousand from a loan charge off in 2005. The
      Bank
      continues to remain well capitalized.





On
      October 12, 2007, the Company acquired Business First National Bank (“Business
      First”). Business First was merged with and into Heritage Oaks Bank, a wholly
      owned subsidiary of Heritage Oaks Bancorp. The consideration paid for Business
      First was approximately $19.5 million, consisting of approximately 75% common
      stock and 25% cash. Business First shareholders received 0.5758 shares of
      Heritage Oaks Bancorp common stock for each share of Business First they owned
      and $3.44 per share in cash. Upon the acquisition, the Company issued 850,213
      shares of common stock and $5.1 million in cash to the former shareholders
      of
      Business First. For additional information regarding the acquisition of Business
      First, see Note 1 tothe consolidated financial statements filed on this Form
      10-Q as well as Note 22 to the consolidated financial statements of the
      Company’s 2007 annual report filed on Form 10-K.





On
      September 20, 2007, the Company issued $5.2 million in Junior Subordinated
      Debt
      Securities (the “Debt Securities”) to Heritage Oaks Capital Trust III, a
      statutory trust created under the laws of the State of Delaware. The Debt
      Securities are subordinated to effectively all borrowings of the Company and
      are
      due and payable in September 2037. Interest is payable quarterly on these
      securities based on the five year SWAP rate plus 2.00% for an effective rate
      of
      6.888%. Interest on the Debt Securities is fixed for five years and at the
      end
      of such time will convert to a floating rate of the five year SWAP rate plus
      2.00%. The Company has the right under the Indenture to defer payment of
      interest on the Debt Securities at any time for a period not to exceed twenty
      consecutive quarterly periods (each an “Extension Period”) provided that no
      Extension Period may extend beyond the maturity of the Debt Securities. In
      the
      event the Company exercises the right to defer payment of interest on the Debt
      Securities, it may not declare or pay any dividends on its common stock. The
      Company presently has no intention to defer interest payments on the Debt
      Securities, and it considers the likelihood of such a deferral to be remote.
      The
      securities can be called at any time commencing on December 15, 2012, at par.
      The Company also purchased a 3.1% minority interest totaling $155 thousand
      in
      Heritage Oaks Capital Trust III. The balance of the equity of Heritage Oaks
      Capital Trust III is comprised of mandatorily redeemable preferred securities
      and is included in other assets. The company used the proceeds from the sale
      of
      the securities to assist in the acquisition in Business First, for general
      corporate purposes, and for capital contributions to the Bank for future
      growth.


-
          22
          -


On
      May
      11, 2007 the Company entered into a material definitive agreement to sell four
      of the Bank’s properties to First States Group, L.P. (“First States”) in a
      sale/leaseback transaction for $12.8 million. In connection with the sale,
      the
      Bank entered into four separate lease agreements with First States Investors,
      LLC to lease back three branches and one administrative facility under which
      the
      Bank will continue to utilize the properties for the normal course of business.
      Each of the four leases contain an annual rent escalation clause equal to the
      lower of CPI-U (Consumer Price Index for all Urban Consumers) or 2.5 percent,
      commencing in the second year of the lease term. Each of the four leases provide
      for an initial term of 15 years with the option to renew for two 10 year terms.
      As of March 31, 2008, the Bank makes monthly payments in the aggregate amount
      of
      $75 thousand to lease these facilities.





In
      connection with the sale of the properties mentioned, the Bank will recognize
      a
      gain of approximately $3.4 million. This gain will be recognized over a fifteen
      year period in accordance with SFAS No. 13 *“Accounting
      For Leases.”* For the
      three months ended March 31, 2008, the Bank recognized a gain of approximately
      $57 thousand and $34 thousand, net of tax, related to the sale-leaseback
      transaction. This gain was recorded as an offset to rental expense for the
      period mentioned. In addition to deferring the gain on sale, the Bank recorded
      an income tax liability and a deferred tax asset in the approximate amounts
      of
      $1.4 million, directly related to the deferred gain on sale.





On
      April
      23, 2007 the Company redeemed all of the Floating Rate Junior Subordinated
      Debt
      Securities it held associated with Heritage Oaks Capital Trust I, a wholly-owned
      subsidiary of Heritage Oaks Bancorp. The redemption price was 100% of the
      principal amount redeemed plus accrued and unpaid interest as of the Redemption
      Date. The Company paid $0.4 million for the standard interest payment due April
      22, 2007, plus a payment of $8.2 million for the principal amount to be redeemed
      on that date. These amounts were funded from the Company’s general corporate
      reserves. As a result of the redemption of the securities the Company held
      associated with Heritage Oaks Capital Trust I, the Trust was dissolved on June
      1, 2007.





*Stock
      Repurchases And Dividends*





On
      July
      18, 2007, the Board of Directors authorized a one year extension of the stock
      repurchase program that was adopted in July 2006. Under the one year extension
      the Company may repurchase up to 100,000 shares of its common stock. As of
      March
      31, 2008, the Company repurchased 53,500 shares of its common stock under the
      current plan. No repurchases were made during the first quarter of
      2008.





On
      April
      24, 2008, the Board of Directors declared a 5% stock divided to be paid on
      May
      16, 2008 to shareholders of record on May 2, 2008. The Company has retroactively
      adjusted the consolidated financial statement to reflect this dividend in March
      2008. This stock dividend represents a change in the form of dividend payment
      to
      the Company’s shareholders away from cash dividends in order to retain the
      Company’s capital for future growth.





On
      January 24, 2008, the Board of Directors declared a quarterly cash dividend
      of
      $0.08 per share to be paid on February 15, 2008 to shareholders of record on
      February 1, 2008.





On
      October 17, 2007, the Board of Directors declared a quarterly cash dividend
      of
      $0.08 per share to be paid on November 16, 2007 to shareholders of record on
      November 2, 2007.





On
      July
      18, 2007, the Board of Directors declared a quarterly cash dividend of $0.08
      per
      share to be paid on August 17, 2007 to shareholders of record on August 3,
      2007.





On
      April
      20, 2007, the Board of Directors declared a quarterly cash dividend of $0.08
      per
      share to be paid on May 18, 2007 to shareholders of record on May 4, 2007.




On
      January 19, 2007, the Board of Directors declared a quarterly cash dividend
      of
      $0.08 per share to be paid on February 16, 2007 to shareholders of record on
      February 2, 2007.


-
          23
          -


*Selected
      Financial Data*





The
      table
      below provides selected financial data that highlights the Company’s quarterly
      performance results:





**For the quarters ended***(dollars in thousands except share data)*
            
            **03/31/08**
            
            **12/31/07**
            
            **09/30/07**
            
            **06/30/07**
            
            **03/31/07**
            
            **12/31/06**
            
            **09/30/06**
            
            **06/30/06**Return
                on average assets
            
            
            0.91
            %
            
            1.11
            %
            
            1.12
            %
            
            1.25
            %
            
            1.10
            %
            
            1.24
            %
            
            1.33
            %
            
            1.38
            %Return
                on average equity
            
            
            9.55
            %
            
            11.65
            %
            
            12.09
            %
            
            13.84
            %
            
            12.10
            %
            
            13.64
            %
            
            14.43
            %
            
            14.37
            %Average
                equity to average assets
            
            
            9.48
            %
            
            9.49
            %
            
            9.27
            %
            
            9.02
            %
            
            9.07
            %
            
            9.11
            %
            
            9.25
            %
            
            9.59
            %Net
                interest margin
            
            
            5.33
            %
            
            5.33
            %
            
            5.44
            %
            
            5.56
            %
            
            5.66
            %
            
            5.77
            %
            
            6.02
            %
            
            6.06
            %Efficiency
                ratio*
            
            
            72.17
            %
            
            67.26
            %
            
            66.89
            %
            
            64.32
            %
            
            68.89
            %
            
            67.12
            %
            
            65.31
            %
            
            64.34
            %Average
                loans to average deposits
            
            
            103.64
            %
            
            96.40
            %
            
            95.79
            %
            
            103.52
            %
            
            108.23
            %
            
            105.03
            %
            
            97.15
            %
            
            94.37
            %Net
                Income
            
            $
            1,675
            
            $
            1,978
            
            $
            1,628
            
            $
            1,800
            
            $
            1,510
            
            $
            1,649
            
            $
            1,733
            
            $
            1,673Earnings
                Per Share:Basic
            
            $
            0.22
            
            $
            0.26
            
            $
            0.24
            
            $
            0.27
            
            $
            0.23
            
            $
            0.25
            
            $
            0.26
            
            $
            0.25Diluted
            
            $
            0.21
            
            $
            0.25
            
            $
            0.23
            
            $
            0.26
            
            $
            0.22
            
            $
            0.24
            
            $
            0.25
            
            $
            0.24Outstanding
                Shares:Basic
            
            
            7,694,546
            
            
            7,682,730
            
            
            6,796,286
            
            
            6,754,321
            
            
            6,703,358
            
            
            6,673,239
            
            
            6,668,263
            
            
            6,654,598Diluted
            
            
            7,851,831
            
            
            7,887,206
            
            
            7,013,070
            
            
            7,027,090
            
            
            6,936,239
            
            
            6,928,273
            
            
            6,924,357
            
            
            7,004,489





*
      The
      efficiency ratio is defined as total non-interest expense as a percent of the
      combined net interest income plus non-interest income.





*Local
      Economy*





The
      economy in the Company’s service area is based primarily on agriculture,
      tourism, light industry, oil and retail trade. Services supporting these
      industries have also developed in the areas of medical, financial and
      educational services. The population of San Luis Obispo County, the City of
      Santa Maria (in Northern Santa Barbara County) and the City of Santa Barbara
      totaled approximately 260,000 and 92,000 and 90,000, respectively, according
      to
      economic data provided by local county and title company sources. The moderate
      climate allows a year round growing season for numerous vegetables and fruits.
      Vineyards and cattle ranches also contribute largely to the local economy.
      The
      Central Coast’s leading agricultural industry is the production of high quality
      wine grapes and production of premium quality wines. Vineyards in production
      have grown significantly over the past several years throughout the Company’s
      service area. Access to numerous recreational activities, including lakes,
      mountains and beaches, provide a relatively stable tourist industry from many
      areas including the Los Angeles/Orange County basin, the San Francisco Bay
      area
      and the San Joaquin Valley. Principally due to the diversity of the various
      industries in the Company’s service area, the area, while not immune from
      economic fluctuations, has historically experienced a more stable level of
      economic activity when compared to many other areas of California.





*Critical
      Accounting Policies*





The
      Company’s significant accounting policies are set forth in the 2007 Annual
      Report, Note 1 of the consolidated financial statements, which was filed on
      Form
      10-K.





The
      following is a brief description of the Company’s current accounting policies
      involving significant Management valuation judgments.





·
            ***Allowance
                for Loan and Lease Losses***





The
      Company considers its policy regarding the allowance for loan losses to be
      its
      most critical accounting policy, because it requires management's most
      subjective and complex judgments. In addition, changes in economic conditions
      can have a significant impact on the allowance for loan losses and therefore
      the
      provision for loan losses and results of operations. The Company has developed
      appropriate policies and procedures for assessing the adequacy of the allowance
      for loan losses, recognizing that this process requires a number of assumptions
      and estimates with respect to its loan portfolio. The Company's assessments
      may
      be impacted in future periods by changes in economic conditions, the impact
      of
      regulatory examinations, and the discovery of information with respect to
      borrowers, which is not known to Management at the time of the issuance of
      the
      consolidated financial statements.


-
          24
          -


The
      allowance for loan and lease losses represents Management’s best estimate of
      losses inherent in the existing loan portfolio. The allowance for loan and
      lease
      losses is increased by the provision for loan and lease losses charged to
      expense and reduced by loans charged-off, net of recoveries. The allowance
      for
      loan and lease losses is determined based on management’s assessment of several
      factors: reviews and evaluation of individual loans, changes in the nature
      and
      volume of the loan portfolio, current economic conditions and the related impact
      on specific borrowers and industry groups, historical loan loss experiences
      and
      the level of classified and nonperforming loans.





Loans
      are
      considered impaired if, based on current information and events, it is probable
      that we will be unable to collect the scheduled payments of principal or
      interest when due according to the contractual terms of the loan agreement.
      The
      measurement of impaired loans is generally based on the present value of
      expected future cash flows discounted at the historical effective interest
      rate
      stipulated in the loan agreement, except that all collateral-dependent loans
      are
      measured for impairment based on the fair value of the collateral. In measuring
      the fair value of the collateral, Management uses assumptions and methodologies
      consistent with those that would be utilized by unrelated third parties. Changes
      in the financial condition of individual borrowers, economic conditions,
      historical loss experience and the condition of the various markets which
      collateral may be sold may all affect the required level of the allowance for
      loan and lease losses and the associated provision for loan and lease losses.
      See also Note 3 to the consolidated financial statements for further discussion
      on Allowance for Loan Losses.





·
            ***Securities
                Available for Sale***





The
      fair
      values of most securities that are designated available for sale are based
      on
      quoted market prices. If quoted market prices are not available, fair values
      are
      extrapolated from the quoted prices of similar instruments.





·
            ***Goodwill
                and Other Intangible Assets***





As
      discussed in the 2007 Annual Report, Note 1 of the consolidated financial
      statements, which was filed on Form 10-K, we assess goodwill and other
      intangible assets each year for impairment. This assessment involves a “carrying
      amount comparison” that compares the fair value of the reporting unit to its
      carrying value (stated shareholders’ equity, including goodwill). If the
      carrying value of a reporting unit materially exceeds its fair value, the
      Company would be required to take a charge against earnings to write down the
      assets to the lower value. The Company determined that there was no impairment
      at December 31, 2007.


-
          25
          -




**Results
      Of Operations**





The
      Company’s earnings are highly influenced by changes in short term interest
      rates. The nature of the Company’s balance sheet can be summarily described as
      of short duration and asset sensitive. The balance sheet is of short duration
      because a large percentage of its interest sensitive assets and liabilities
      re-price immediately with changes in Federal Funds and Prime interest rates.
      This was evidenced during the first quarter of 2008, as the FOMC cut the
      overnight Federal Funds rate by 200 basis points. The result was declines in
      interest income and interest expense from that reported for the three months
      ended December 31, 2007. The Company has historically been asset sensitive,
      primarily due to its large volume of non-interest bearing demand deposit
      accounts which effectively never re-price. Therefore, an upward movement in
      short term interest rates will generally result in higher net interest margin
      and, conversely, a reduction in short term interest rates will result in reduced
      net interest margin. However, during 2007, the Bank engaged in promotional
      activities designed to attract lower cost core deposits. As a result of these
      promotions, the Bank’s balance of floating rate money market accounts increased
      dramatically. This proved to be beneficial to the Bank during the first quarter
      of 2008, as the Bank had the ability to re-price those funds in conjunction
      with
      the moves in interest rates made by the FOMC, allowing the Bank to maintain
      its
      net interest margin on a quarter over quarter basis.





Historically,
      the largest and most variable source of income for the Company is net interest
      income. The results of operations for the three months ended March 31, 2008
      and
      2007 reflect the impact of a rising rate environment that covered the majority
      of 2004 through the third quarter of 2007 as well as a dramatic decline in
      interest rates from the fourth quarter of 2007 through the first quarter of
      2008.





*Net
      Interest Income and Interest Margin*





Net
      interest income, the primary component of the net earnings of a financial
      institution, refers to the difference between the interest paid on deposits
      and
      borrowings, and the interest earned on loans and investments. The net interest
      margin is the amount of net interest income expressed as a percentage of average
      earning assets. Factors considered in the analysis of net interest income are
      the composition and volume of earning assets and interest-bearing liabilities,
      the amount of non-interest bearing liabilities and non-accrual loans, and
      changes in market interest rates.





The
      volume and rate variances table below sets forth the dollar difference in
      interest earned and paid for each major category of interest-earning assets
      and
      interest-bearing liabilities for the three month period ended March 31, 2008
      over the same period ended in 2007, and the amount of such change attributable
      to changes in average balances (volume) or changes in average yields and
      rates.





**For
                the three months ended**
              **March 31, 2008 over 2007***(dollars
                in thousands)*
            
            **Volume**
            
            **Rate**
            
            **Total****Interest
                Income:**Loans
                (1)
            
            $
            3,143
            
            $
            (868
            )
            $
            2,275Investment
                securities taxable
            
            
            173
            
            
            25
            
            
            198Investment
                securities non-taxable (2)
            
            
            11
            
            
            (4
            )
            
            7Taxable
                equivalent adjustment (2)
            
            
            (3
            )
            
            1
            
            
            (2
            )Interest-bearing
                deposits
            
            
            -
            
            
            -
            
            
            -Federal
                funds sold
            
            
            42
            
            
            (6
            )
            
            36Net
                increase (decrease)
            
            
            3,366
            
            
            (852
            )
            
            2,514**Interest
                Expense:**Savings,
                now, money market
            
            
            720
            
            
            66
            
            
            786Time
                deposits
            
            
            285
            
            
            (126
            )
            
            159Other
                borrowings
            
            
            (120
            )
            
            (287
            )
            
            (407
            )Long
                term borrowings
            
            
            (56
            )
            
            (54
            )
            
            (110
            )Net
                increase (decrease)
            
            
            829
            
            
            (401
            )
            
            428Total
                net increase (decrease)
            
            $
            2,537
            
            $
            (451
            )
            $
            2,086




(1) 
      Loan fees of $355 and $288 for the three months ending March 31, 2008 and 2007
      respectively.


(2) 
      Adjusted to a fully taxable equivalent basis using a tax rate of
      34%.


-
          26
          -


The
      tables below set forth average balance sheet information, interest income and
      expense, average yields and rates and net interest income and margin for the
      three months ended March 31, 2008 and 2007. The average balance of non-accruing
      loans has been included in loan totals.




**For the three months ending**
              **March 31, 2008**
            
            **For the three months ending**
              **March 31, 2007***(dollars in thousands)*
            
            **Balance**
            
            **Rate (4)**
            
            **Income/**
              **Expense**
            
            **Balance**
            
            **Rate (4)**
            
            **Income/**
              **Expense****Interest
                Earning Assets:**Investments
                with other banks
            
            **$**
            **330**
            
            
            **3.66**
            **%**
            **$**
            **3**
            
            $
            318
            
            
            3.83
            %
            $
            3Investment
                securities taxable
            
            
            **38,144**
            
            
            **4.99**
            **%**
            
            **473**
            
            
            24,216
            
            
            4.61
            %
            
            275Investment
                securities non-taxable
            
            
            **17,122**
            
            
            **4.30**
            **%**
            
            **183**
            
            
            16,652
            
            
            4.34
            %
            
            178Federal
                funds sold
            
            
            **8,013**
            
            
            **3.36**
            **%**
            
            **67**
            
            
            2,411
            
            
            5.21
            %
            
            31Loans
                (1) (2)
            
            
            **623,981**
            
            
            **7.79**
            **%**
            
            **12,091**
            
            
            460,825
            
            
            8.64
            %
            
            9,816Total
                interest earning assets
            
            
            **687,590**
            
            
            **7.50**
            **%**
            
            **12,817**
            
            
            504,422
            
            
            8.28
            %
            
            10,303Allowance
                for possible loan losses
            
            
            **(6,204**
            **)**
            
            
            
            
            
            
            
            (4,180
            )Other
                assets
            
            
            **62,769**
            
            
            
            
            
            
            
            
            57,629Total
                assets
            
            **$**
            **744,155**
            
            
            
            
            
            
            
            $
            557,871**Interest
                Bearing Liabilities:**Savings/NOW/money
                market
            
            
            **303,903**
            
            
            **1.99**
            **%**
            
            **1,506**
            
            
            158,745
            
            
            1.84
            %
            
            720Time
                deposits
            
            
            **154,040**
            
            
            **4.13**
            **%**
            
            **1,580**
            
            
            125,973
            
            
            4.57
            %
            
            1,421Other
                borrowings
            
            
            **45,675**
            
            
            **3.10**
            **%**
            
            **352**
            
            
            57,241
            
            
            5.32
            %
            
            751Federal
                funds purchased
            
            
            **4,209**
            
            
            **3.44**
            **%**
            
            **36**
            
            
            3,128
            
            
            5.70
            %
            
            44Long-term
                debt
            
            
            **13,403**
            
            
            **6.69**
            **%**
            
            **223**
            
            
            16,496
            
            
            8.19
            %
            
            333Total
                interest-bearing liabilities
            
            
            **521,230**
            
            
            **2.85**
            **%**
            
            **3,697**
            
            
            361,583
            
            
            3.67
            %
            
            3,269Demand
                deposits
            
            
            **144,108**
            
            
            
            
            
            
            
            
            141,073Other
                liabilities
            
            
            **8,247**
            
            
            
            
            
            
            
            
            4,612**Stockholders'
                Equity:**Common
                stock
            
            
            **44,036**
            
            
            
            
            
            
            
            
            29,338Additional
                paid in capital
            
            
            **711**
            
            
            
            
            
            
            
            
            371Retained
                earnings
            
            
            **25,703**
            
            
            
            
            
            
            
            
            20,825Valuation
                allowance investments
            
            
            **120**
            
            
            
            
            
            
            
            
            69Total
                stockholders' equity
            
            
            **70,570**
            
            
            
            
            
            
            
            
            50,603Total
                liabilities and stockholders' equity
            
            **$**
            **744,155**
            
            
            
            
            
            
            
            $
            557,871Net
                interest income
            
            
            
            
            
            
            
            **$**
            **9,120**
            
            
            
            
            
            
            
            $
            7,034Net
                interest margin (3)
            
            
            
            
            
            **5.33**
            **%**
            
            
            
            
            
            
            
            5.66
            %




(1)
            Nonaccrual
                loans have been included in total loans.


(2)
            Loan
                fees of $352 and $288 for the three months ending March 31, 2008
                and 2007,
                respectively have been included in interest income
                computation.


(3)
            Net
                interest margin has been calculated by dividing the net interest
                income by
                total average earning assets.


(4)
            Rate
                is annualized using actual number of days in period.


-
          27
          -


The
      tables below set forth changes for the three months ending March 31, 2008
      compared to the same period in 2007 for average interest earning assets and
      their respective average yields.





**Average Balance**
              **for the three months ending**
              **March 31,**
            
            **Variance**
            
            **Average Yield**
              **for the three months ending**
              **March 31,***(dollars
                in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**
            
            **2008**
            
            **2007**
            
            **Variance**Time
                deposits with other banks
            
            $
            330
            
            $
            318
            
            $
            12
            
            
            3.77
            %
            
            3.66
            %
            
            3.83
            %
            
            -0.17
            %Investment
                securities taxable
            
            
            38,144
            
            
            24,216
            
            
            13,928
            
            
            57.52
            %
            
            4.99
            %
            
            4.61
            %
            
            0.38
            %Investment
                securities non-taxable
            
            
            17,122
            
            
            16,652
            
            
            470
            
            
            2.82
            %
            
            4.30
            %
            
            4.34
            %
            
            -0.04
            %Federal
                funds sold
            
            
            8,013
            
            
            2,411
            
            
            5,602
            
            
            232.35
            %
            
            3.36
            %
            
            5.21
            %
            
            -1.85
            %Loans
                (1) (2)
            
            
            623,981
            
            
            460,825
            
            
            163,156
            
            
            35.41
            %
            
            7.79
            %
            
            8.64
            %
            
            -0.85
            %Total
                interest earning assets
            
            $
            687,590
            
            $
            504,422
            
            $
            183,168
            
            
            36.31
            %
            
            7.50
            %
            
            8.28
            %
            
            -0.78
            %


(1)
            Nonaccrual
                loans have been included in total loans.


(2)
              Loan
                  fees of $355 and $288 for the three months ending March 31, 2008
                  and 2007,
                  respectively have been included in the interest income computation.




As
      of
      March 31, 2008, total earning assets were approximately $183.2 million higher
      than when reported a year earlier. The primary factor for the increase in
      interest earning assets can be attributed to the acquisition of Business First,
      organic loan growth, and the purchase of approximately $9.9 million in
      investment securities during the first quarter of 2008. At March 31, 2008,
      approximately $149.8 million of the increase in interest earning assets can
      be
      attributable to the acquisition of Business First. Additionally, the Company
      continues to increase the loan portfolio organically with continued market
      penetration by a team of seasoned loan officers. Additions to the loan portfolio
      for the three months ending March 31, 2008 were achieved under the Company’s
      established loan policy.





For
      the
      three month period ended March 31, 2008, the average yield on loans was 7.79%.
      This represents a decline of 85 basis points from the 8.64% reported for the
      same period ended a year earlier. As conditions in the credit markets have
      worsened over the last six months, the FOMC has moved to cut the overnight
      Fed
      Funds rate in aggregate by 300 basis points since late in the third quarter
      of
      2007. This has had a direct impact in the average yield of the loan portfolio,
      as corresponding declines in the Prime rate have brought yields in the portfolio
      down. The decline in the average yield of the loan portfolio is the primary
      contributory factor in the 78 basis point decline in the average yield of
      interest earning assets on a year over year basis. See also “Item 3.
      Quantitative and Qualitative Disclosure About Market Risk” for additional
      discussion.





The
      taxable investment portfolio gained in average yield due in part to additions
      to
      the securities portfolio during the first quarter of 2008 at slight discounts
      relative to the price history of those assets.





The
      tables below set forth changes for the three months ending March 31, 2008
      compared to the same period in 2007 for average interest bearing liabilities
      and
      the respective average rates paid.





**Average Balance**
              **for the three months ending**
              **March 31,**
            
            **Variance**
            
            **Average Rate**
              **for the three months ending**
              **March 31,***(dollars
                in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**
            
            **2008**
            
            **2007**
            
            **Variance**Savings/NOW/money
                market
            
            $
            303,903
            
            $
            158,745
            
            $
            145,158
            
            
            91.44
            %
            
            1.99
            %
            
            1.84
            %
            
            0.15
            %Time
                deposits
            
            
            154,040
            
            
            125,973
            
            
            28,067
            
            
            22.28
            %
            
            4.13
            %
            
            4.57
            %
            
            -0.44
            %Other
                borrowings
            
            
            45,675
            
            
            57,241
            
            
            (11,566
            )
            
            -20.21
            %
            
            3.10
            %
            
            5.32
            %
            
            -2.22
            %Federal
                funds purchased
            
            
            4,209
            
            
            3,128
            
            
            1,081
            
            
            34.56
            %
            
            3.44
            %
            
            5.70
            %
            
            -2.26
            %Long
                term debt
            
            
            13,403
            
            
            16,496
            
            
            (3,093
            )
            
            -18.75
            %
            
            6.69
            %
            
            8.19
            %
            
            -1.50
            %Total
                interest-bearing liabilities
            
            $
            521,230
            
            $
            361,583
            
            $
            159,647
            
            
            44.15
            %
            
            2.85
            %
            
            3.67
            %
            
            -0.82
            %





At
      March
      31, 2008 the balance of average interest bearing liabilities was approximately
      $159.6 million higher than when reported a year earlier. The primary factor
      contributing to the increase was the acquisition of Business First as well
      as
      promotions the Bank engaged in during the majority of 2007 and early 2008
      designed to attract lower cost core deposits. This is evidenced by the $145.2
      million or 91.4% increase in Savings, NOW and Money Market account balances.
      Of
      this increase, approximately $54.1 million can be attributed to core deposit
      balances the Bank obtained in the acquisition of Business First.





At
      March
      31, 2008 and 2007, the average balance of floating rate deposits represented
      approximately 66.4% and 55.8%, respectively, of total interest bearing deposit
      accounts. The increase in floating rate deposit balances allowed the Bank to
      re-price its interest bearing deposits more rapidly in conjunction with the
      moves in interest rates made by the FOMC during the first quarter of 2008,
      which
      was a contributing factor in maintaining the net interest margin at 5.33% on
      a
      quarter over quarter basis.





The
      average rate paid on floating rate core deposit balances increased for the
      three
      months ended March 31, 2008 but was off-set by lower costs for other interest
      bearing liabilities. These factors contributed to the overall 82 basis point
      net
      decrease in funding costs.


-
          28
          -


*Non-Interest
      Income*





The
      tables below set forth changes for the three months ending March 31, 2008
      compared to the same period in 2007 for non-interest income.





**For the three months ended**
              **March 31,**
            
            **Variance***(dollars in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**Service
                charges on deposit accounts
            
            $
            772
            
            $
            611
            
            $
            161
            
            
            26.4
            %ATM/Debit
                Card transaction/interchange fees
            
            
            209
            
            
            176
            
            
            33
            
            
            18.8
            %Bancard
            
            
            43
            
            
            58
            
            
            (15
            )
            
            -25.9
            %Mortgage
                origination fees
            
            
            166
            
            
            149
            
            
            17
            
            
            11.4
            %Earnings
                on cash surrender value life insurance
            
            
            112
            
            
            106
            
            
            6
            
            
            5.7
            %Other
            
            
            137
            
            
            131
            
            
            6
            
            
            4.6
            %Total
                non-interest income
            
            $
            1,439
            
            $
            1,231
            
            $
            208
            
            
            16.9
            %





For
      the
      three months ended March 31, 2008 compared to the same period ended a year
      earlier, non-interest income was approximately $208 thousand or 16.9% higher.
      As
      evidenced in the table above, the primary factor behind the overall increase
      in
      non-interest income can be attributed to higher service charges on deposit
      accounts. Of the increase in this category, approximately $135 thousand can
      be
      attributed to the acquisition of Business First. The additional deposit
      relationships obtained resulting from the promotional activities the Bank
      engaged in during the majority of 2007 and early 2008 have also contributed
      to
      the year over year increase within this category.





The
      primary factor behind the year over year increase in debit card interchange
      income can be attributed to the acquisition of Business First, the additional
      accounts the Bank added over the prior year related to promotional activities,
      and a stronger emphasis being placed on customer debit card usage.





The
      decline in Bancard revenues for the three months ended March 31, 2008 compared
      to the same period ended a year earlier can be attributed to lower merchant
      transaction volumes during the first quarter.





For
      the
      three months ended March 31, 2008, mortgage origination fee income was
      approximately $17 thousand or 11.4% higher than that reported for the same
      period a year earlier. Since the fourth quarter of 2007, the Bank has moved
      to
      strengthen the origination team with additional high quality, seasoned
      professionals, which have contributed to the year over year increase we have
      seen in mortgage origination volumes. Additionally, the decline in interest
      rates on a year over year basis has contributed to higher volumes, as more
      and
      more home owners seek to re-finance.





The
      table
      below illustrates the change in the number and total dollar volume of mortgage
      loans originated during the three months ended March 31, 2008 compared to the
      same period ended in 2007.





**For the three months ended March 31,***(dollars
                in thousands)*
            
            **2008**
            
            **2007**
            
            **Variance**Dollar
                volume
            
            $
            16,404
            
            $
            15,143
            
            
            8.3
            %Number
                of loans
            
            
            45
            
            
            41
            
            
            9.8
            %


-
          29
          -


*Non-Interest
      Expenses*





The
      tables below set forth changes for the three months ending March 31, 2008
      compared to the same period in 2007 for non-interest expense.




**For the three months ended**
              **March 31,**
            
            **Variance***(dollars in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**Salaries
                and employee benefits
            
            $
            4,225
            
            $
            3,250
            
            $
            975
            
            
            30.0
            %Occupancy
                and equipment
            
            
            1,139
            
            
            715
            
            
            424
            
            
            59.3
            %Data
                processing
            
            
            654
            
            
            533
            
            
            121
            
            
            22.7
            %Advertising
                and promotional
            
            
            247
            
            
            214
            
            
            33
            
            
            15.4
            %Regulatory
                fees
            
            
            108
            
            
            28
            
            
            80
            
            
            285.7
            %Other
                professional fees and outside services
            
            
            286
            
            
            334
            
            
            (48
            )
            
            -14.4
            %Legal
                fees and other litigation expense
            
            
            37
            
            
            28
            
            
            9
            
            
            32.1
            %Loan
                department costs
            
            
            32
            
            
            42
            
            
            (10
            )
            
            -23.8
            %Stationery
                and supplies
            
            
            119
            
            
            94
            
            
            25
            
            
            26.6
            %Director
                fees
            
            
            78
            
            
            74
            
            
            4
            
            
            5.4
            %Core
                deposit intangible amortization
            
            
            215
            
            
            88
            
            
            127
            
            
            144.3
            %Other
            
            
            480
            
            
            294
            
            
            186
            
            
            63.3
            %Total
                non-interest expense
            
            $
            7,620
            
            $
            5,694
            
            $
            1,926
            
            
            33.8
            %





·
            ***Salary
                and Employee Benefits***





Salaries
      and employee related expense incurred the greatest dollar increase of any
      non-interest expense category for the three months ending March 31, 2008 over
      the same period ended in 2007. The primary factor driving the increase within
      this category can be attributed to the acquisition of Business First. Of the
      year over year increase within this category, approximately $622 thousand can
      be
      attributed to acquired staff costs. Additionally, the Bank opened a new full
      service branch in the town of San Miguel, which has also contributed to the
      increase within this category.





·
            ***Occupancy
                and Equipment***





Expenses
      related to occupancy and equipment increased significantly for the three months
      ended March 31, 2008 when compared to the same period ended a year earlier.
      During the second quarter of 2007, the Bank sold four of its properties in
      a
      sale-leaseback transaction. While this contributed significantly to the year
      over year increase in occupancy and equipment expenses, the Bank benefited
      by
      providing approximately $12.8 million in additional liquidity that was invested
      in earning assets. Additionally, the addition of two branches related to the
      acquisition of Business First contributed to the increase with this category.
      For the three months ended March 31, 2008 the additional expense incurred within
      this category attributable to Business First was approximately $214 thousand.
      As
      previously mentioned, the Bank opened a new Branch in the town of San Miguel,
      which has also contributed to the increase within this category.





·
            ***Data
                Processing***





Expenses
      within this category increased approximately $121 thousand or 22.7% for the
      three months ended March 31, 2008 when compared to the same period ended a
      year
      earlier. The primary factor behind the increase within this category can be
      attributed to higher transaction processing volumes related to the acquisition
      of Business First.





·
            ***Other
                Professional Fees and Outside
                Services***





Other
      professional fees and outside service expenses decreased by $48 thousand for
      the
      quarter ended March 31, 2008 when compared to the same period ended a year
      earlier. The decline in expense within this category can be attributed to
      slightly lower audit fees as well as a reduction in the expense associated
      with
      services the Bank out-sources for certain clients.





·
            ***Advertising
                and Promotional***





For
      the
      three months ended March 31, 2008 expenses within this category increased
      approximately $33 thousand or 15.4% from that reported for the same period
      ended
      a year earlier. The increase in advertising and promotional expenses can be
      attributed in part to the promotional activities the Bank has engaged in
      designed to attract lower cost core deposit balances.


-
          30
          -


·
            ***Core
                Deposit Intangible (“CDI”)
                Amortization***





Upon
      the
      acquisition of Business First the Company booked CDI in the approximate amount
      of $3.8 million. The remaining balance of this intangible will be amortized
      over
      a six year period. For the three month period ended March 31, 2008 CDI
      amortization was approximately $127 thousand higher than when reported for
      the
      same period ended in 2007. This increase can be attributed to the additional
      CDI
      booked in conjunction with the Business First acquisition.





·
            ***Provision
                for Income Taxes***





The
      provision for income taxes was 37.9% for both the three month periods ended
      March 31, 2008 and 2007.





**Financial
      Condition Analysis**





At
      March
      31, 2008 total assets were $761.2 million compared to $745.6 million at December
      31, 2007. This represents an increase of $15.7 million or approximately 2.1%.
      During the first quarter of 2008, the Bank saw loan growth in the approximate
      amount of $26.6 million. The majority of the increase in loan balances can
      be
      attributed to increases in the construction and land segment of the portfolio.





The
      Bank
      also saw a dramatic decline in deposit balances during the first three months
      of
      2008 and consequently lower balances of Federal Funds sold and higher balances
      of Federal Home Loan Bank borrowing. The large decline in the overnight Fed
      Funds rate during the first quarter prompted the Bank to reduce the rate paid
      on
      its interest bearing deposits and as a result total deposit balances declined
      approximately $54.4 million or 8.4% from the balance reported at December 31,
      2007.




*Loans*





At
      March
      31, 2008, total gross loan balances were $639.9 million. This represents an
      increase of approximately $26.6 million or 4.3% from the balance reported at
      December 31, 2007. The primary factor behind the year to date increase in total
      gross loans can be attributed to higher construction and land loan balances
      in
      the approximate amount of $25.1 million. Additionally, the higher commercial
      real-estate loan balance contributed to the overall increase in loan
      balances.




The
      table
      below sets forth changes from December 31, 2007 to March 31, 2008 for the
      composition of the loan portfolio:





**March
                31,**
            
            **December
                31,**
            
            **Variance***(dollars
                in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**Commercial,
                financial and agricultural
            
            $
            146,481
            
            $
            146,080
            
            $
            401
            
            
            0.27
            %Real
                estate - construction
            
            
            143,271
            
            
            118,200
            
            
            25,071
            
            
            21.21
            %Real
                estate - commercial
            
            
            324,050
            
            
            322,928
            
            
            1,122
            
            
            0.35
            %Home
                equity lines of credit
            
            
            17,200
            
            
            17,470
            
            
            (270
            )
            
            -1.55
            %Installment
                loans to individuals
            
            
            7,733
            
            
            7,977
            
            
            (244
            )
            
            -3.06
            %All
                other loans (including overdrafts)
            
            
            1,125
            
            
            562
            
            
            563
            
            
            100.18
            %Total
                loans, gross
            
            
            639,860
            
            
            613,217
            
            
            26,643
            
            
            4.34
            %Deferred
                loan fees
            
            
            1,833
            
            
            1,732
            
            
            101
            
            
            5.83
            %Reserve
                for possible loan losses
            
            
            6,305
            
            
            6,143
            
            
            162
            
            
            2.64
            %Total
                loans, net
            
            $
            631,722
            
            $
            605,342
            
            $
            26,380
            
            
            4.36
            %Loans
                held for sale
            
            $
            2,759
            
            $
            902
            
            $
            1,857
            
            
            205.88
            %





·
            ***Commercial,
                Financial and
                Agricultural***





Commercial,
      financial and agricultural loans increased $0.4 million or 0.3% for the three
      months ended March 31, 2008. New loans within this category consist primarily
      of
      numerous credit lines and term loans ranging from $0.1 to $1.0 million. These
      loans were made to medical groups, contractors, hotel operators, farmers and
      other businesses located throughout our market area.


-
          31
          -





·
            ***Real-Estate
                Construction***





Loans
      within this category increased $25.1 million or 21.2% from the year ended
      December 31, 2007. New loans made within this category consist of two loans
      for
      residential tract developments in the aggregate amount of $13.9 million. These
      projects are located in the California Central Valley in Kern County. One
      project is approved for 314 single family lots. This project, located in
      Bakersfield, California, has also been approved for approximately 8.6 acres
      of
      commercial development and 13.5 acres for recreational purposes. This
      project was funded in the first quarter of 2008 and has an approximate
      loan to value of 50.0%. The second project, located in McFarland, California,
      consists of 17 finished homes, 38 finished lots and is the only new housing
      development in its area. The purpose of the project is to provide affordable
      housing to a market that generally consists of renters. This
      loan
      funded in March 2008 and the borrowers have subsequently sold two of the
      finished homes and the loan has been reduced by $740 thousand. The borrowers
      are
      actively marketing the remaining homes and anticipate sales to occur at a rate
      of two homes per month through 2008. The current loan to value on this project
      is 67.0%.As of March 31, 2008, both of these loans are performing.
      Additional loans made within this category during the first quarter of 2008
      include: a loan made for mixed use development, a new hotel project, two
      separate loans for the construction of commercial office space and other
      real-estate construction loans all totaling $22.0 million in new funding, as
      well as numerous other smaller projects. Additionally, during the second half
      of
      2007, several large construction loans were made and these continue to be
      funded. Construction loans are typically granted for a one year period and
      then,
      with income properties, are amortized over a period not more than 30 years
      with
      10 to 15 year maturities.





The
      Bank
      presently has a concentration of loans in the category of construction / land
      in
      the amount of $143.3 million, which represents 224.2% of the Bank’s Tier I
      capital. Of this, approximately $15.0 million are owner occupied, thus the
      concentration is 200.7% net of owner occupied. Un-disbursed commitments within
      this category total approximately $57.3 million and when combined with disbursed
      represent 313.2% of the Bank’s Tier I Capital, with $18.4 million owner
      occupied. At March 31, 2008 there were 87 construction loans with balances
      and
      remaining commitments of approximately $88.5 million and $51.7 million,
      respectively. The single largest construction loan has an original commitment
      of
      $10.9 million, all of which has been disbursed as of March 31, 2008. At March
      31, 2008 there were 58 land loans with an aggregate balance of approximately
      $54.3 million. The single largest loan is for a real-estate tract development
      with a commitment of $12.2 million of which approximately $10.4 million has
      been
      disbursed.





·
            ***Real-Estate
                Commercial***





As
      of
      March 31, 2008 loans in this category represented approximately $324.1 million
      of the Bank’s loan portfolio. This, when compared to the $322.9 million reported
      at December 31, 2007, represents an increase of approximately $1.1 million
      or
      0.4%. During the first quarter of 2008 loans in excess of $6.0 million were
      paid
      off while new fundings of comparable amounts made. At March 31, 2008 the largest
      loan within this category was for a mixed use property in the amount of $5.8
      million.





Hotel
      loans disbursed are not considered a concentration with balances of
      approximately $50.5 million, representing 79.0% of the Bank’s Tier I capital.
      There are several hotel construction loans that increase total outstanding
      balances to $68.5 million as well as un-disbursed commitments of approximately
      $15.8 million, which in aggregate represent a concentration at 131.9% of the
      Bank’s Tier I capital. At March 31, 2008, there were 43 hotel loans of which the
      single largest is a loan for $10.9 million that is still within the construction
      category noted above. These loans are made to clients throughout our market
      area
      and have historically performed in a satisfactory manner.





In
      September 2004, the Bank issued an $11.7 million irrevocable standby letter
      of
      credit to guarantee the payment of taxable variable rate demand bonds that
      has
      since been reduced to $11.4 million. The primary purpose of the bond issue
      was
      to refinance existing debt and provide funds for capital improvement and
      expansion of an assisted living facility. The project is 100% complete and
      fully
      leased. The letter of credit will expire in September 2008.





·
            ***Loans
                Held For Sale***





Loans
      held for sale consist of mortgage originations that have already been sold
      pursuant to correspondent mortgage loan agreements. There is no interest rate
      risk associated with these loans as the commitments are in place at the time
      the
      Bank funds them. Settlement from the correspondents is typically within 30
      to 45
      days. At March 31, 2008 and December 31, 2007 mortgage correspondent loans
      (loans held for sale) totaled approximately $2.8 million and $0.9 million,
      respectively.





·
            ***Foreign
                Loans***





At
      March
      31, 2008, the Bank had no foreign loans outstanding.





·
            ***Summary
                of Market Condition***





The
      local
      residential real-estate market came under significant pressure during 2007
      and
      continues to remain under pressure thus far in 2008. The market was negatively
      impacted by rising interest rates during the majority of 2007, negative
      sentiment surrounding market values of real-estate, and an over supply of newly
      constructed homes. As more and more home owners began to see interest rate
      resets on adjustable rate mortgages, the number of non-performing loans and
      defaults began to rise in the industry as a whole. This trend has continued
      thus
      far in 2008. However, these effects were primarily felt by residential mortgage
      lenders, which is not the focus of the Bank. These factors eventually led to
      the
      tightening of credit and further downturn in real-estate markets. Sales of
      single family homes have significantly fallen year over year in the Company’s
      market area with recent indications showing price declines of close to 20%.
      The
      Bank continues to employ stringent lending standards and remains very selective
      with regard to any additional real-estate construction loans it chooses to
      fund. Although the lending environment has become more challenging,
      commercial real-estate prices in the Company’s market area remained relatively
      unchanged from the prior year even with slowing sales. During 2007 the demand
      for business and professional properties in the Company’s market area remained
      strong, with relatively low vacancies, competitive loan rates, and many
      investors seeking exchange properties. This helped to provide some insulation
      against a significant downturn in prices as well as the volume of sales. Demand
      for these properties has remained relatively unchanged thus far in 2008,
      however, vacancy rates, in some of the Company’s market areas, appear to be
      increasing with respect to retail and office segments.  Capitalization
      rates, the rate at which a stream of cash flows are discounted to find their
      present value, for the last three years were: 5.5% to 6.5% in 2005, 5.0% to
      6.5%
      in 2006, and 6.0% to 7.0% in 2007.


-
          32
          -


The
      Company continues to believe that the desirability of the area as well as the
      diversity of the loan portfolio will continue to provide some insulation against
      a slowdown in growth. Additionally, the Company has and will continue to monitor
      lending trends in order to take the appropriate steps if necessary to mitigate
      any material adverse impact the slowing of the single family residential and
      commercial real-estate markets may have on the loan portfolio
      overall.





The
      following charts give a breakdown of types of Construction/Land Loans and types
      of Commercial Real Estate loans as of March 31, 2008: ****








*Non
      Performing Assets*





The
      Bank’s Management is responsible for monitoring loan performance, which is done
      through various methods, including a review of loan delinquencies and personal
      knowledge of customers. Additionally, the Bank maintains both a “watch” list of
      loans that, for a variety of reasons, management believes requires regular
      review as well as an internal loan classification process. Annually, the loan
      portfolio is also reviewed by an experienced, outside loan reviewer not
      affiliated with the Bank. A list of delinquencies, the watch list, loan grades
      and the outside loan review are reviewed regularly by the Bank’s Board of
      Directors.





The
      Bank
      has a non-accrual policy that requires a loan greater than 90 days past due
      and/or is specifically determined to be impaired to be placed on non-accrual
      status unless such loan is well-collateralized and in the process of collection.
      When loans are placed on non-accrual status, all uncollected interest accrued
      is
      reversed from earnings. Once on non-accrual status, interest on a loan is only
      recognized on a cash basis and is generally not recognized on specific impaired
      loans unless the likelihood of further loss is remote. Interest payments
      received on such loans are applied as a reduction of the loan principal balance.
      Loans may be returned to accrual status if management believes that all
      remaining principal and interest is fully collectible and there has been at
      least six months of sustained repayment performance since the loan was placed
      on
      non-accrual.





Non-performing
      loans include non-accrual loans, restructured loans and accruing loans that
      are
      90 days or more delinquent. The Bank had no loans that were 90 days or more
      delinquent and still accruing interest at March 31, 2008. Loans on non-accrual
      status totaled $1.5 million and $338 thousand at March 31, 2008 and December
      31,
      2007, respectively. At March 31, 2008, non-performing loans consisted of twelve
      loans to nine clients. A description of these loans are as follows: two loans
      that are less than $20 thousand each are paying as agreed, one loan for
      approximately $255 thousand that is real estate secured has a loan to value
      (“LTV”) of less than 65% and is current, two loans for approximately $250
      thousand that are in foreclosure with no anticipated loss, six loans for three
      clients with total loan balances of approximately $1.0 million are currently
      booked at their assessed value and are being closely monitored for any
      deterioration, and one government guaranteed loan of less than $14 thousand
      is
      in the process of collection on the guarantee. Interest income that would have
      been recognized on non-accruing loan balances if they had performed in
      accordance with the terms of the loans was approximately $ 31 thousand and
      $65
      thousand at March 31, 2008 and December 31, 2007, respectively.


-
          33
          -


The
      following table provides a summary of non-performing assets at March 31, 2008
      compared to December 31, 2007 as well as key asset quality ratios:





*(dollars
                in thousands)*
            
            **March
                31,**
              **2008**
            
            **December
                31,**
              **2007**Loans
                delinquent 90 days or more and still accruing
            
            $
            -
            
            $
            -Non-accruing
                loans
            
            
            1,544
            
            
            338Total
                non-performing loans
            
            $
            1,544
            
            $
            338Foreclosed
                collateral
            
            
            -
            
            
            -Total
                non-performing assets
            
            $
            1,544
            
            $
            338Ratio
                of allowance for credit losses to total gross loans
            
            
            0.99
            %
            
            1.00
            %Ratio
                of allowance for credit losses to total non-performing
                loans
            
            
            408
            %
            
            1817
            %Ratio
                of non-performing loans to total gross loans
            
            
            0.24
            %
            
            0.06
            %Ratio
                of non-performing loans to total assets
            
            
            0.20
            %
            
            0.05
            %





Real-estate
      sales have slowed considerably over the last several months and continue to
      lag
      prior year volumes. Management acknowledges that due to negative undertones
      associated with the economy and real estate market, the internal “watch” list
      has significantly expanded. While credit quality is consistently monitored,
      Management has implemented additional precautionary actions that include but
      are
      not limited to pro-actively identifying credit weaknesses earlier in the
      collection cycle, increasing the oversight frequency of watch list credits
      and
      devoting additional internal resources to monitoring those credits. While there
      is no guarantee that the Bank will not experience an increase in non-performing
      loans, historically the Bank has been able to work through impaired credits
      with
      minimal net charge off history. As a result of continuing efforts to proactively
      identify credit weakness, in the month of May Management identified six spec
      construction loans that it has placed on non-accrual status. For additional
      discussion related to these loans, please see “Recent Developments” on page 22
      of this Form 10-Q.





If
      a
      loan’s credit quality deteriorates to the point that collection of principal is
      believed by Management to be doubtful and the value of collateral securing
      the
      obligation is sufficient the Bank generally takes steps to protect and liquidate
      the collateral. Any loss resulting from the difference between the loan balance
      and the fair market value of the property is recognized by a charge to the
      reserve for loan losses. When the property is held for sale after foreclosure,
      it is subject to a periodic appraisal. If the appraisal indicates that the
      property will sell for less than its recorded value, the Bank recognizes the
      loss by a charge to non-interest expense.





*Total
      Cash and Due from Banks*





Total
      cash and due from banks was $25.9 million and $46.4 million at March 31, 2008
      and December 31, 2007, respectively. This line item will vary depending on
      cash
      letters from the previous night and actual cash on hand in the branches.
      Additionally, lower deposit balance during the first quarter of 2008 when
      compared to that reported at December 31, 2007 have contributed to fewer Federal
      Funds sold.





*Investment
      Securities and Other Earning Assets*





Other
      earning assets are comprised of Federal Home Loan Bank stock, Federal Funds
      sold
      (funds the bank lends on a short-term basis to other banks), investments in
      securities and short-term interest bearing deposits at other financial
      institutions. These assets are maintained for liquidity needs of the Bank,
      collateralization of public deposits, and diversification of the earning asset
      mix.


-
          34
          -


The
      table
      below sets forth changes from December 31, 2007 to March 31, 2008 for the
      composition of other earning assets:





**March 31,**
            
            **December 31,**
            
            **Variance***(dollars in thousands)*
            
            **2008**
            
            **2007**
            
            **dollar**
            
            **percentage**Federal
                Home Loan Bank stock
            
            $
            3,402
            
            $
            3,045
            
            $
            357
            
            
            11.72
            %Available-for-sale
                securities
            
            
            54,829
            
            
            47,556
            
            
            7,273
            
            
            15.29
            %Federal
                funds sold
            
            
            3,670
            
            
            23,165
            
            
            (19,495
            )
            
            -84.16
            %Interest
                bearing deposits other financial institutions
            
            
            330
            
            
            330
            
            
            -
            
            
            0.00
            %Total
                other earning assets
            
            $
            62,231
            
            $
            74,096
            
            $
            (11,865
            )
            
            -16.01
            %





The
      Company manages its securities portfolio to provide a source of both liquidity
      and earnings. The Bank has an asset/liability committee that develops current
      investment policies based upon its operating needs and market circumstance.
      The
      Bank’s investment policy is formally reviewed and approved annually by the board
      of directors. The asset/liability committee of the Bank is responsible for
      reporting and monitoring compliance with the investment policy. Reports are
      provided to the Bank’s boards of directors on a regular basis.





At
      March
      31, 2008, total other earning assets decreased approximately $11.9 million
      due
      primarily to declines in Federal Funds sold. The decline in the balance of
      Federal Funds sold can be attributed to lower deposit balances during the first
      quarter of 2008, resulting in fewer excess funds available for overnight
      investment. Additionally, the amount of Federal Funds sold can vary widely
      on a
      daily basis depending on the cash position of the bank which is affected by
      numerous variables such as cash letters, incoming and outgoing wire activity,
      and loan funding needs.





Securities
      available-for-sale are carried at fair value, with related unrealized net gains
      or losses, net of deferred income taxes, recorded as an adjustment to equity
      capital. At March 31, 2008, net unrealized gains in the portfolio were $617
      thousand or $363 thousand, net of tax. This, when compared to the net unrealized
      gain of approximately $313 thousand or $184 thousand, net of tax the portfolio
      had at December 31, 2007 represents an increase in market value of approximately
      $304 thousand or $179 thousand, net of tax. The gain in market value of the
      securities portfolio for the three months ended March 31, 2008 can be attributed
      largely to the dramatic decline in the overnight Fed Funds rate seen during
      the
      first quarter. The approximate $7.3 million increase in the size of the
      portfolio can be attributed to $9.9 million of securities the Bank purchased
      during the first quarter as well as principle pay-downs on mortgage-backed
      securities in the amount of $2.0 million.





During
      the third and fourth quarters of 2007, fixed income markets saw a significant
      re-pricing of credit risk, which caused the values of certain classes of fixed
      income instruments to fall, specifically those related to Collateralized Debt
      Obligations (“CDO”) and Mortgage-Backed Securities (“MBS”). Concerns surrounding
      these asset classes continued to overhang the market during the first quarter
      of
      2008. However the Bank’s securities portfolio has continued to perform in a
      satisfactory manner, as the fair value of the securities portfolio in the first
      quarter increased approximately $304 thousand.





As
      part
      of the acquisition of Business First, the Bank acquired five whole loan CMO
      securities with a remaining principle balance of approximately $4.2 million.
      The
      Bank purchased two additional whole loan CMOs in the approximate amount of
      $9.9
      million in the first quarter of 2008. Management performs extensive review
      of
      the underlying collateral for these securities, including but not limited to
      updates on: credit enhancements, loan-to-values, credit scores, delinquency
      rates and default rates. At March 31, 2008, the market value of these securities
      had a net unrealized loss of approximately $78 thousand or $46 thousand net
      of
      tax effect.





At
      March
      31, 2008, other than the seven whole loan CMOs discussed in the paragraph above,
      the remaining MBS and CMO’s in the Bank’s investment portfolio were issued by:
      The Government National Mortgage Association (“Ginnie Mae”), The Federal
      National Mortgage Association (“Fannie Mae”), and The Federal Home Loan Mortgage
      Corporation (“Freddie Mac”). These securities carry the guarantee of the issuing
      agencies.





All
      fixed
      and adjustable rate mortgage pools contain a certain amount of risk related
      to
      the uncertainty of prepayments of the underlying mortgages. Interest rate
      changes have a direct impact upon prepayment rates. The Bank uses computer
      simulation models to test the average life, duration, market volatility and
      yield volatility of adjustable rate mortgage pools under various interest rate
      assumptions to monitor volatility. Stress tests are performed quarterly.


-
          35
          -


*Deposits
      and Borrowed Funds*





The
      table
      below sets forth changes from December 31, 2007 to March 31, 2008 for the
      composition of deposit categories:





**Variance***(dollars in thousands)*
            
            **March 31,**
              **2008**
            
            **December 31,**
              **2007**
            
            **dollar**
            
            **percentage**
            
            **% of Total**
              **Deposits**
              **3/31/08**Non-interest
                bearing demand
            
            $
            155,621
            
            $
            153,684
            
            $
            1,937
            
            
            1.26
            %
            
            26.4
            %Interest
                bearing demand
            
            
            79,248
            
            
            69,558
            
            
            9,690
            
            
            13.93
            %
            
            13.4
            %Savings
            
            
            23,840
            
            
            41,599
            
            
            (17,759
            )
            
            -42.69
            %
            
            4.0
            %Money
                market
            
            
            199,882
            
            
            206,754
            
            
            (6,872
            )
            
            -3.32
            %
            
            33.8
            %Time
                deposits of $100K or more
            
            
            47,069
            
            
            75,966
            
            
            (28,897
            )
            
            -38.04
            %
            
            8.0
            %Time
                deposits under $100K
            
            
            84,795
            
            
            97,247
            
            
            (12,452
            )
            
            -12.80
            %
            
            14.4
            %Total
                deposits
            
            $
            590,455
            
            $
            644,808
            
            $
            (54,353
            )
            
            -8.43
            %
            
            100.0
            %





Acquisition
      of core deposits has become the single biggest challenge facing the Company.
      Still, the Company has been able to increase deposits on a year over year basis
      due to the acquisition of Business First and a well planned marketing strategy
      and incentive based compensation that has been in place for several years.
      Like
      all good strategies, this one is fluid and is subject to the changing dynamics
      within the Company’s balance sheet and staffing along with changes in its
      primary market area.





At
      March
      31, 2008, total deposit balances were approximately $54.4 million lower than
      that reported at December 31, 2007. The moves by the FOMC during the first
      quarter of 2008 to cut the overnight Fed Funds rate by an aggregate 200 basis
      points has had a direct impact on the Bank’s total deposit balances. The Bank
      moved aggressively to lower rates paid on interest bearing accounts in response
      to the actions taken by the FOMC and as a result, we began to see some expected
      deposit run-off. In particular, deposit run-off was most evident in time deposit
      balances. During the majority of 2007, the Bank stayed short with respect to
      maturities of time deposits, allowing for those funds to re-price more quickly
      in a declining interest rate environment. However, as rates began to fall
      significantly beginning late in the third quarter of 2007, balances within
      this
      category began to decline as time deposit customers chose to reinvest their
      funds with other depository institutions offering above average deposit rates.
      Management has been keenly aware of the need for lower cost core deposits in
      order to rely less on secondary funding sources, but has chosen not to engage
      in
      irrational deposit pricing in an effort to maintain the net interest margin.
      However, late in the first quarter of 2008, the Bank rolled out new CD
      promotions with step up rate features designed to attract additional deposits
      so
      as to mitigate further declines in overall balances, allowing us to rely more
      on
      our primary funding source.





Additionally,
      the declines in time deposit balances during the first quarter of 2008 can
      be
      attributed in part to the call of approximately $10.7 million in higher cost
      brokered time deposits that were acquired in the acquisition of Business
      First.





As
      of
      March 31, 2008, core deposit balances (demand, savings, and money market)
      represented 77.6% of total deposits compared to 73.1% of total deposits at
      December 31, 2007. Non-interest bearing demand accounts represent approximately
      26.4% of total deposits at March 31, 2008. Of this balance, approximately $10.8
      million consist of deposit relationships that the Bank considers to be volatile
      in nature. This when compared to the $15.7 million reported at December 31,
      2007, represents a decline of approximately $4.9 million. The customers that
      hold these deposits engage in mortgage related activities. These volatile
      account relationships are included in the volatile liability dependency report
      that the Bank produces on a monthly basis. Typically, a material change in
      balances held by these customers is reflected in the balance of Federal Funds
      sold and is recognized by Management to potentially be short term in nature.
      Therefore, any material increase in these balances is not considered to be
      a
      funding source for any form of long-term investment. Management and the Board
      of
      Directors of the Bank are keenly aware that as conditions in the mortgage market
      change, these relationships will be impacted. Additionally, late in 2007 the
      Bank obtained two additional deposit relationships that it also considers to
      be
      volatile and which are also closely monitored by Management. At March 31, 2008,
      the balances of these accounts were approximately $29.9 million. This when
      compared to the $42.6 million reported at December 31, 2007, represents a
      decline of approximately $12.7 million. These accounts are classified as money
      market accounts.





Additionally,
      the Bank has a policy in place that permits the purchase of brokered funds
      as a
      secondary source for funding. There were approximately $1.8 million in brokered
      deposit balances at March 31, 2008. These funds are callable at the option
      of
      the Company in May 2008.


-
          36
          -


The
      following table provides a summary of the Federal Home Loan Bank (“FHLB”)
      borrowings the Bank had as of March 31, 2008:


**Amount**
              
              **Interest**
              
              **Maturity****Borrowed**
              
              **Rate**
              
              **Variable/Fixed**
              
              **Date**$
              25,000
              
              
              2.18
              %
              
              Fixed
              
              
              6/20/0822,500
              
              
              2.16
              %
              
              Fixed
              
              
              9/22/0810,000
              
              
              2.60
              %
              
              Fixed
              
              
              2/6/0910,000
              
              
              2.85
              %
              
              Fixed
              
              
              1/26/094,000
              
              
              4.93
              %
              
              Fixed
              
              
              2/27/09$
              71,500
              
              
              2.48
              %





As
      evidenced in the table above, the balance of FHLB borrowing as of March 31,
      2008
      was $71.5 million. This represents an increase of approximately $63.5 million
      from the balance reported at December 31, 2007. The increase in FHLB borrowing
      is primarily attributable to the $54.4 million decline in deposit balances
      the
      Bank saw during the first quarter of 2008. Additionally, during the first
      quarter of 2008, the Bank borrowed $10.0 million from the FHLB and securitized
      that borrowing with securities it purchased in the approximate amount of $9.9
      million.





Management
      makes regular assessments of balance sheet needs to determine how much if any
      and at what term it will borrow from the FHLB.





The
      Bank
      utilizes securities sold under repurchase agreements as a source of funds.
      The
      Bank had $2.2 million and $1.9 million in securities sold under agreements
      to
      repurchase at March 31, 2008 and December 31, 2007, respectively.





In
      the
      fourth quarter of 2007, the Company renewed a promissory note with Pacific
      Coast
      Bankers Bank (“PCBB”) for a revolving line of credit in the amount of $3.5
      million. At March 31, 2008, the Company had no balance outstanding on this
      note.
      The Company pledged 646,598 shares (51%) of the Bank’s stock as collateral for
      the loan. The note is revolving in nature for the first two years. The terms
      of
      the note call for quarterly interest only payments for the first two years
      with
      subsequent principal and interest payments for eight years on a fully amortized
      basis.  At
      March
      31, 2008, the interest rate on the note was 5.25% and is variable, moving with
      prime. Under the terms of the agreement, the Company will not incur any
      additional debt over $2.0 million exclusive of inter-company debt and existing
      debt without the prior written consent of PCBB. In addition, the Bank must
      be
“well” capitalized on an on-going basis as defined by bank
      regulators.





On
      September 17, 2004, the Bank issued a Letter of Credit in the amount of
      approximately $11.7 million to a customer in regard to a senior care facility.
      The Letter of Credit was issued pursuant to a Letter of Credit Reimbursement
      Agreement between the Bank and the FHLB. It is collateralized by a blanket
      lien
      with the FHLB that includes all qualifying loans on the Bank’s balance sheet.
      The letter of credit will expire in September 2008.





*Capital*





The
      Company's total stockholders’ equity was $71.0 million at March 31, 2008
      compared to $69.5 million at December 31, 2007. The change in capital was due
      to
      net income of $1.7 million, stock options exercised in the amount of $138
      thousand, the capital impact of year-to-date share-based compensation expense
      of
      $113 thousand, $587 thousand paid year-to-date in cash dividends, and an
      increase in accumulated other comprehensive income of $179 thousand.





·
            ***Dividends***





The
      following table provides a summary of the cash dividends the Company has paid
      over the last two years:





**Dividend
                Type**
            
            **Dividend**
              **Amount**
              **Per Share**
            
            **Declaration**
              **Date**
            
            **Record**
              **Date**
            
            **Payable**
              **Date**Quarterly
                cash dividend
            
            $
            0.08
            
            
            24-Jan-08
            
            
            1-Feb-08
            
            
            15-Feb-08Quarterly
                cash dividend
            
            $
            0.08
            
            
            17-Oct-07
            
            
            2-Nov-07
            
            
            16-Nov-07Quarterly
                cash dividend
            
            $
            0.08
            
            
            18-Jul-07
            
            
            3-Aug-07
            
            
            17-Aug-07Quarterly
                cash dividend
            
            $
            0.08
            
            
            20-Apr-07
            
            
            4-May-07
            
            
            18-May-07Quarterly
                cash dividend
            
            $
            0.08
            
            
            19-Jan-07
            
            
            2-Feb-07
            
            
            16-Feb-07Quarterly
                cash dividend
            
            $
            0.08
            
            
            20-Oct-06
            
            
            3-Nov-06
            
            
            17-Nov-06Quarterly
                cash dividend
            
            $
            0.08
            
            
            21-Jul-06
            
            
            11-Aug-06
            
            
            25-Aug-06Special
                cash dividend
            
            $
            0.25
            
            
            21-Apr-06
            
            
            8-May-06
            
            
            19-May-06


-
          37
          -


On
      April
      24, 2008, the Board of Directors declared a stock dividend in the amount of
      5%
      to be paid on May 16, 2008 to shareholders of record on May 2, 2008. The
      Company’s has retroactively adjusted the consolidated financial statements to
      reflect this dividend in March 2008.





The
      stock
      dividend represents a change in the form of dividend payment to the Company’s
      shareholders away from a cash dividend, which the Company has paid out over
      the
      past seven consecutive quarters. The Company had previously paid a stock
      dividend on an annual basis to shareholders for 10 consecutive years prior
      to
      switching to a cash dividend in 2006. At this time of economic uncertainty,
      the
      Board of Directors believes that retention of capital for future growth is
      in
      the best interest of the Company.





·
            ***Stock
                Repurchases***





On
      July
      21, 2006, the Board of Directors adopted a resolution authorizing the repurchase
      of up to 40,000 shares of the Company’s common stock. Purchases are to be made,
      as conditions warrant, from time to time in the open market or through privately
      negotiated transactions. The duration of the program is one year and the timing
      of purchases will depend on market conditions. Subsequently, on October 20,
      2006, the Board of Directors adopted a resolution to increase the number of
      shares available for repurchase under the current plan to 100,000. In July
      2007,
      the Board of Directors authorized a one year extension of this plan, which
      is
      set to expire in July 2008.





As
      of
      March 31, 2008, the Company repurchased and retired approximately 53,500 shares
      of its common stock under the current plan at a weighted average price of
      $17.44. The Company made no repurchases of its common stock during the three
      months ended March 31, 2008. Under the current plan, the Company has the
      authority to repurchase 46,500 shares through July 2008.





·
            ***Trust
                Preferred Securities***





On
      October 27, 2006 the Company issued $8.2 million of Floating Rate Junior
      Subordinated Debt Securities (“the debt securities”) to Heritage Oaks Capital
      Trust II, a statutory trust created under the laws of the State of Delaware.
      These debt securities are subordinated to effectively all borrowings of the
      Company. The Company intends to use the proceeds from the issuance of these
      securities for general corporate purposes, which may include capital
      contributions to the Bank, investments, payment of dividends, and repurchases
      of
      our common stock.





On
      April
      23, 2007, the Company redeemed all of the Floating Rate Junior Subordinated
      Debt
      Securities it held associated with Heritage Oaks Capital Trust I, a wholly
      owned
      subsidiary of Heritage Oaks Bancorp. The redemption price was 100% of the
      principal amount redeemed plus accrued and unpaid interest as of the redemption
      date. The Company paid $0.4 million for the standard interest payment due April
      22, 2007, plus a payment of $8.2 million for the principal amount to be redeemed
      on that date. These amounts were funded from the Company’s general corporate
      reserves. As a result of the redemption of the securities associated with
      Heritage Oaks Capital Trust I, the Trust was dissolved on June 1,
      2007.





On
      September 20, 2007, the Company issued $5.2 million of Junior Subordinated
      Deferrable Interest Debentures (the “debt securities”) to Heritage Oaks Capital
      Trust III, a statutory trust created under the laws of the State of Delaware.
      These debt securities are subordinated to effectively all borrowings of the
      Company. The Company used the proceeds from the sale of the securities to assist
      in the acquisition of Business First, for general corporate purposes, and for
      capital contributions to the Bank for future growth.





At
      December 31, 2007, the Company had $13.4 million in Junior Subordinated
      Deferrable Interest Debentures (the “debt securities”) issued and outstanding.
      These securities have been issued to Heritage Oaks Capital Trusts II and III.
      The debt securities are subordinated to effectively all borrowings of the
      Company and can be redeemed at par if certain events occur that impact the
      tax
      treatment, regulatory treatment or the capital treatment of the issuance. Upon
      the issuance of the debt securities, the Company purchased a 3.1% minority
      interest in both Heritage Oaks Capital Trusts II and III, totaling $248 thousand
      and $155 thousand, respectively. The balance of the equity of Heritage Oaks
      Capital Trusts II and III is comprised of mandatory redeemable preferred
      securities and is included in other assets. Interest associated with the
      securities issued to Heritage Oaks Capital Trusts II and III is payable
      quarterly at 3-month LIBOR plus 1.71% variable rate and 6.888% fixed,
      respectively.


-
          38
          -


The
      following table provides a summary of the securities the Company has issued
      to
      Heritage Oaks Capital Trusts II and III as of March 31, 2008:





*(dollars
                in thousands)*
            
            **Amount**
              **Issued**
            
            **Current**
              **Rate**
            
            **Issue**
              **Date**
            
            **Scheduled
                Maturity**
            
            **Call**
              **Date**
            
            **Rate
                Type**Heritage
                Oaks Capital Trust II
            
            $
            8,248
            
            
            6.45
            %
            
            27-Oct-06
            
            
            Aug-37
            
            
            Nov-11
            
            
            Varibale 3-month LIBOR + 1.71%Heritage Oaks
                Capital Trust III
            
            
            5,155
            
            
            6.89
            %
            
            20-Sep-07
            
            
            Sep-37
            
            
            Dec-12
            
            
            5- year Fixed SWAP + 2.00%Total
                Issued
            
            $
            13,403
            
            
            6.62
            %





The
      Company has the right under the indentures to defer interest payments for a
      period not to exceed twenty consecutive quarterly periods (each an “Extension
      Period”) provided that no extension period may extend beyond the maturity of the
      debt securities. If the Company elects to defer interest payments pursuant
      to
      terms of the agreements, then the Company may not (i) declare or pay any
      dividends or distributions on, or redeem, purchase, acquire or make a
      liquidation payment with respect to any of the Company’s capital stock, or (ii)
      make any payment of principal of or premium, if any, or interest on or repay,
      repurchase or redeem any debt securities of the Company that rank pari passu
      with or junior in interest to the Debt Securities, other than, among other
      items, a dividend in the form of stock, warrants, options or other rights in
      the
      same stock as that on which the dividend is being paid or ranks pari passu
      with
      or junior to such stock. The prohibition on payment of dividends and payments
      on
      pari passu or junior debt also applies in the case of an event of default under
      the agreements.





Under
      FIN
      No. 46, *“Consolidation
      of Variable Interest Entities, an interpretation of ARB No.
      51,”* the
      Company is not allowed to consolidate Heritage Oaks Capital Trusts II and III
      into the Company’s financial statements. Prior to the issuance of FIN No. 46,
      Bank holding companies typically consolidated these entities. On February 28,
      2005, the Federal Reserve Board issued a rule which provides that,
      notwithstanding the deconsolidation of such trusts, junior subordinated
      debentures, such as those issued by the Company, may continue to constitute
      up
      to 25% of a bank holding company's Tier I capital, subject to certain new
      limitations which will not become effective until March 31, 2009 and which,
      in
      any event, are not expected to affect the treatment of the Company's Junior
      Subordinated Debentures as Tier I capital for regulatory purposes. As of March
      31, 2008, the Company has included $13.0 million of the net junior subordinated
      debt in its Tier I Capital for regulatory capital purposes.





At
      March
      31, 2008, the Company had sufficient cash to service the $13.4 million in junior
      subordinated debenture interest payments for approximately four years without
      dividends from subsidiaries. The Bank’s capacity to provide cash to the Company,
      while remaining “well-capitalized”, was approximately $1.5 million at March 31,
      2008.





·
            ***Regulatory
                Capital Requirements***





Capital
      ratios for commercial banks in the United States are generally calculated using
      three different formulas. These calculations are referred to as the “Leverage
      Ratio” and two “risk-based” calculations known as: “Tier One Risk Based Capital
      Ratio” and the “Total Risk Based Capital Ratio.” These standards were developed
      through joint efforts of banking authorities from different countries around
      the
      world. The standards essentially take into account that different types of
      assets have different levels of risk associated with them. Furthermore, they
      take into account the off-balance sheet exposures of banks when assessing
      capital adequacy.





The
      Leverage Ratio calculation simply divides common stockholders’ equity (reduced
      by any goodwill a bank may have) by the total assets. In the Tier One Risk
      Based
      Capital Ratio, the numerator is the same as the leverage ratio, but the
      denominator is the total “risk-weighted assets”. Risk weighted assets are
      determined by segregating all the assets and off balance sheet exposures into
      different risk categories and weighting them by a percentage ranging from 0%
      (lowest risk) to 100% (highest risk). The Total Risk Based Capital Ratio again
      uses “risk-weighted assets” in the denominator, but expands the numerator to
      include other capital items besides equity such as a limited amount of the
      loan
      loss reserve, long-term capital debt, preferred stock and other instruments.





Summarized
      below are the Company’s and the Bank’s regulatory capital ratios at March 31,
      2008:





**Regulatory Standard****Adequately**
              **Capitalized**
            
            **Well**
              **Capitalized**
            
            **Heritage Oaks**
              **Bancorp**
            
            **Heritage Oaks**
              **Bank**Leverage
                Ratio
            
            
            4.00
            %
            
            5.00
            %
            
            9.30
            %
            
            8.82
            %Tier
                I Risk Based Captial Ratio
            
            
            4.00
            %
            
            6.00
            %
            
            9.82
            %
            
            9.28
            %Total
                Risk Based Captial Ratio
            
            
            8.00
            %
            
            10.00
            %
            
            10.76
            %
            
            10.22
            %


-
          39
          -


*Liquidity*





The
      objective of liquidity management is to ensure the continuous availability
      of
      funds to meet the demands of depositors, investors and borrowers. Asset
      liquidity is primarily derived from loan payments and the maturity of other
      earning assets. Liquidity from liabilities is obtained primarily from the
      receipt of new deposits and or other borrowed funds. The Bank’s Asset Liability
      Committee (“ALCO”) is responsible for managing the on and off-balance sheet
      commitments to meet the needs of customers while achieving the Bank’s financial
      objectives. ALCO meets regularly to assess the projected funding requirements
      by
      reviewing historical funding patterns, current and forecasted economic
      conditions and individual customer funding needs. Deposits generated from Bank
      customers serve as the primary source of liquidity.





The
      Bank
      has credit arrangements with correspondent banks that serve as a secondary
      liquidity source. As of March 31, 2008 the Bank had approximately $5.0 million
      drawn against these credit arrangements. The Bank is also member of the FHLB
      and
      as of March 31, 2008 had approximately $71.5 million in outstanding borrowing
      from the FHLB.





The
      following table provides a summary of the remaining borrowing capacity the
      Company has with the secondary liquidity sources mentioned above as of March
      31,
      2008:





*(dollars
                in thousands)*
            
            **March
                31, 2008**Federal
                Home Loan Bank remaining borrowing capacity
            
            $
            80,512Correspondent
                bank credit arrangements - Bank
            
            
            34,995Revolving
                line of credit - Holding Company
            
            
            3,500Total
                available secondary liquidity source
            
            $
            119,007





In
      addition to the secondary sources of liquidity previously mentioned, the Bank
      has a policy in place that permits the acquisition of brokered funds. Upon
      the
      acquisition of Business First, the Bank acquired approximately $12.5 million
      in
      brokered deposits. At March 31, 2008, the Bank had approximately $1.8 million
      in
      brokered deposit balances remaining from the acquisition of Business First.
      These funds are callable at the option of the Company in May 2008.





The
      Bank
      manages liquidity by maintaining an investment portfolio of federal funds sold
      and other liquid investments. At March 31, 2008, the ratio of liquid assets
      not
      pledged for collateral and other purposes to deposits and other liabilities
      was
      6.67% compared to 9.59% at December 31, 2007. The ratio of net loans to deposits
      was 107.0% at March 31, 2008 compared to 93.9% at December 31, 2007. The $54.4
      million decline in deposit balances during the first quarter of 2008 in addition
      to the $26.4 million increase in net loan balances from December 31, 2007
      contributed to the increase in the loan deposit ratio. The ratio of total gross
      loans to available funding sources, which takes into account all funding sources
      including those other than deposits such as FHLB lines, was 85.9% at March
      31,
      2008 compared to 80.6% at December 31, 2007.





*Inflation*





The
      assets and liabilities of a financial institution are primarily monetary in
      nature. As such they represent obligations to pay or receive fixed and
      determinable amounts of money that are not affected by future changes in prices.
      Generally, the impact of inflation on a financial institution is reflected
      by
      fluctuations in interest rates, the ability of customers to repay debt and
      upward pressure on operating expenses. The effect of inflation over the past
      two
      years has been significant to the Company’s financial position and results of
      operations in regard to fluctuation in interest rates. The increase in interest
      rates during the majority of 2007 has created a narrowing of the net interest
      margin and only until the first quarter of 2008 has the Company continued to
      see
      contraction. Over the past year there has been a great deal of news in the
      national media related to the rising rate environment leading to the inability
      of some borrowers in the single family residential sub-prime and alt- a markets
      to repay their debt. However, the Company’s primary focus is commercial lending
      and the strong underwriting requirements the Company has in place have continued
      to lend itself to relatively strong asset quality as evidenced by a 0.24%
      non-performing loan to total gross loan ratio as of March 31, 2008.





*Off-Balance
      Sheet Arrangements*





Off-balance
      sheet arrangements are any contractual arrangement to which an unconsolidated
      entity is a party, under which the Company has: (1) any obligation under a
      guarantee contract; (2) a retained or contingent interest in assets transferred
      to an unconsolidated entity or similar arrangement that serves as credit,
      liquidity or market risk support to that entity for such assets; (3) any
      obligation under certain derivative instruments; or (4) any obligation under
      a
      material variable interest held by the Company in an unconsolidated entity
      that
      provides financing, liquidity, market risk or credit risk support to the
      Company, or engages in leasing, hedging or research and development services
      with the Company.


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          40
          -


In
      the
      ordinary course of business, the Company has entered into off-balance sheet
      financial instruments consisting of commitments to extend credit, commercial
      letter of credit, and standby letter of credit. Such financial instruments
      are
      recorded in the financial statements when they are funded or related fees are
      incurred or received. For a more detailed discussion of these financial
      instruments, refer to Note 10 of the Company’s Consolidated Financial Statements
      contained in Item 8 of Part II of the Company’s December 31, 2007
      10-K.





In
      the
      ordinary course of business, the Bank is a party to various operating leases.
      For a more detailed discussion of these financial instruments, refer to Note
      10
      of the Company’s Consolidated Financial Statements contained in Item 8 of Part
      II of the Company’s December 31, 2007 10-K.





In
      connection with the $13.4 million in debt securities discussed in “ *Capital* ,”
the
      Company issued the full and unconditional payment guarantee of certain accrued
      distributions.





**Item
      3.**  **Quantitative
      and Qualitative Disclosure about Market Risk**





As
      a
      financial institution, the Company’s primary component of market risk is
      interest rate volatility. Fluctuations in interest rates will ultimately impact
      both the level of interest income and interest expense recorded on a large
      portion of the Company’s assets and liabilities, and the market value of all
      interest earning assets and interest bearing liabilities, other than those
      which
      possess a short term to maturity. Virtually all of the Company’s interest
      earning assets and interest bearing liabilities are located at the banking
      subsidiary level. Thus, virtually all of the Company’s interest rate risk
      exposure lies at the banking subsidiary level other than $13.4 million in
      subordinated debentures issued by the Company’s subsidiary grantor trusts. As a
      result, all significant interest rate risk procedures are performed at the
      banking subsidiary level. The subsidiary bank’s real estate loan portfolio,
      concentrated primarily within Santa Barbara and San Luis Obispo Counties,
      California, are subject to risks associated with the local economy.




The
      fundamental objective of the Company’s management of its assets and liabilities
      is to maximize the Company’s economic value while maintaining adequate liquidity
      and an exposure to interest rate risk deemed by Management to be acceptable.
      Management believes an acceptable degree of exposure to interest rate risk
      results from the management of assets and liabilities through maturities,
      pricing and mix to attempt to neutralize the potential impact of changes in
      market interest rates. The Company’s profitability is dependent to a large
      extent upon its net interest income, which is the difference between its
      interest income on interest-earning assets, such as loans and investments,
      and
      its interest expense on interest-bearing liabilities, such as deposits and
      borrowings. The Company is subject to interest rate risk to the degree that
      its
      interest-earning assets re-price differently than its interest-bearing
      liabilities. The Company manages its mix of assets and liabilities with the
      goals of limiting its exposure to interest rate risk, ensuring adequate
      liquidity, and coordinating its sources and uses of funds.




The
      Company seeks to control interest rate risk exposure in a manner that will
      allow
      for adequate levels of earnings and capital over a range of possible interest
      rate environments. The Company has adopted formal policies and practices to
      monitor and manage interest rate risk exposure.  Management believes
      historically it has effectively managed the effect of changes in interest rates
      on its operating results.  Management believes that it can continue to
      manage the short-term effect of interest rate changes under various interest
      rate scenarios.




Management
      employs the use of an Asset and Liability Management software that is used
      to
      measure the Bank’s exposure to future changes in interest rates. This model
      measures the expected cash flows and re-pricing of each financial
      asset/liability separately in measuring the Bank’s interest sensitivity. Based
      on the results of this model, management believes the Bank’s


balance
      sheet is “asset sensitive”. This means the Company expects (all other
      things being equal) to expand its net interest income if rates rise and expects
      it conversely to contract if rates fall.  The level of potential or
      expected contraction indicated by the tables below is considered acceptable
      by
      management and is compliant with the Bank’s ALCO policies.  Management will
      continue to perform this analysis each quarter to further validate the expected
      results against actual data.




The
      hypothetical impacts of sudden interest rate movements applied to the Company’s
      asset and liability balances are modeled monthly. The results of these models
      indicate how much of the Company’s net interest income is “at risk” from various
      rate changes over a one year horizon. This exercise is valuable in identifying
      risk exposures. Management believes the results for the Company’s March 31, 2008
      balances indicate that the net interest income at risk over a one year time
      horizon for a 1% and 2% rate increase and decrease is acceptable at this
      time.


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          41
          -


The
      results in the table below indicate the change in net interest income the
      Company would expect to see as of March 31, 2008, if interest rates were to
      change in the amounts set forth:





**Rate
                Shock Scenarios***(dollars
                in thousands)*
            
            **-200bp**
            
            **-100bp**
            
            **Base**
            
            **+100bp**
            
            **+200bp**Net
                interest income (NII)
            
            $
            35,619
            
            $
            37,202
            
            $
            38,664
            
            $
            40,218
            
            $
            42,077$
                Change from base
            
            $
            (3,045
            )
            $
            (1,462
            )
            $
            -
            
            $
            1,554
            
            $
            3,413%
                Change from base
            
            
            -7.87
            %
            
            -3.78
            %
            
            0.00
            %
            
            4.02
            %
            
            8.83
            %





It
      is
      important to note that the above table is a summary of several forecasts and
      actual results may vary. The forecasts are based on estimates and assumptions
      of
      Management that may turn out to be different and may change over time. Factors
      affecting these estimates and assumptions include, but are not limited to 1)
      competitor behavior, 2) economic conditions both locally and nationally, 3)
      actions taken by the Federal Reserve Board, 4) customer behavior and 5)
      Management’s responses. Changes that vary significantly from the assumptions and
      estimates may have significant effects on the Company’s net interest income;
      therefore, the results of this analysis should not be relied upon as indicative
      of actual future results.





The
      following tables show Management’s estimates of how the loan portfolio is broken
      out between variable-daily, variable at various time lines, fixed rate loans
      and
      estimates of re-pricing opportunities for the entire loan portfolio at March
      31,
      2008.





*(dollars
                in thousands)***Rate
                Type**
            
            ******Balance**
            
            **Percent
                of**
              **Total**Variable
                - daily
            
            $
            273,081
            
            
            42.7
            %Variable
                other than daily
            
            
            208,814
            
            
            32.6
            %Fixed
                rate
            
            
            157,965
            
            
            24.7
            %Total
                gross loans
            
            $
            639,860
            
            
            100.0
            %





The
      table
      above identifies approximately 42.7% of the loan portfolio that will re-price
      immediately in a changing rate environment. At March 31, 2008, approximately
      $481.9 million or 75.3% of the Bank’s loan portfolio is variable and of this
      balance approximately $102.8 million of loans are currently at their
      floor.





*(dollars
                in thousands)***Re-Pricing**
            
            ******Balance**
            
            **Percent
                of**
              **Total**<
                1 Year
            
            $
            370,057
            
            
            57.8
            %1-3
                Years
            
            
            148,318
            
            
            23.2
            %3-5
                Years
            
            
            65,924
            
            
            10.3
            %>
                5 Years
            
            
            55,561
            
            
            8.7
            %Total
                gross loans
            
            $
            639,860
            
            
            100.0
            %





The
      table
      above indicates that as of March 31, 2008, approximately 57.8% of the Bank’s
      loan portfolio will re-price within one year and approximately 81.0% of the
      Bank’s loan portfolio will re-price within three years.


-
          42
          -




**Item
      4.**  **Controls
      and Procedures**





*Evaluation
      of Disclosure Controls and Procedures*





As
      of the
      end of the period covered by this report, the Company carried out an evaluation,
      under the supervision and with the participation of its management, including
      the Company’s Chief Executive Officer and Chief Financial Officer, of the
      effectiveness of the design and operation of the Company’s disclosure controls
      and procedures pursuant to Exchange Act Rules 13a-15 and 15d-15. Based upon
      that
      evaluation, the Chief Executive Officer and Chief Financial Officer concluded
      that the Company’s disclosure controls and procedures are effective to provide
      reasonable assurances that information required to be disclosed in the reports
      the Company files or submits under the Securities Exchange Act of 1934 is
      recorded, processed, summarized and reported within the time periods specified
      in the SEC’s rules and forms.





*Changes
      in Internal Control Over Financial Reporting*





There
      was
      no change in the Company’s internal controls over financial reporting during the
      quarter ended March 31, 2008 that has materially affected, or is reasonably
      likely to materially affect, the Company’s internal controls over financial
      reporting.





In
      designing and evaluating disclosure controls and procedures, the Company’s
      Management recognized that any controls and procedures, no matter how well
      designed and operated, can provide only reasonable, not absolute, assurances
      of
      achieving the desired control objectives and Management necessarily was required
      to apply its judgment in evaluating the cost-benefit relationship of possible
      controls and procedures.


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          43
          -


**Part
      2. Other Information**





**Item
      1.**  **Legal
      Proceedings**





The
      Company is not a party to any material legal proceeding.





**Item
      1A.Risk Factors**





During
      the period covered by this report there were no material changes from risk
      factors as previously disclosed in the Company’s December 31, 2007 annual report
      filed on Form 10-K in response to Item A to Part I of Form 10-K.





**Item
      2.**  **Changes
      in Securities, Use of Proceeds and Issuer Purchases of Equity
      Securities**





*Unregistered
      Sale of Equity Securities*





None.





*Purchases
      of Equity Securities*





On
      July
      21, 2006, the Board of Directors adopted a resolution authorizing the repurchase
      of up to 40,000 shares of the Company’s common stock. Purchases are to be made,
      as conditions warrant, from time to time in the open market or through privately
      negotiated transactions. The duration of the program is one year and the timing
      of purchases will depend on market conditions. Subsequently, on October 20,
      2006, the Board of Directors adopted a resolution to increase the number of
      shares available for repurchase under the current plan to 100,000. In July
      2007,
      the Board of Directors authorized a one year extension of this plan, which
      is
      set to expire in July 2008.





As
      of
      March 31, 2008, the Company repurchased and retired approximately 53,500 shares
      of its common stock under the current plan at a weighted average price of
      $17.44. The Company made no repurchases of its common stock during the three
      months ended March 31, 2008. Under the current plan, the Company has the
      authority to repurchase 46,500 shares through July 2008.





**Item
      3.**  **Defaults
      Upon Senior Securities**





Not
      applicable.





**Item
      4.**  **Submission
      of Matters to a Vote of Security Holders**





Not
      applicable.





**Item
      5.**  **Other
      Information**





Not
      applicable.


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          44
          -


**Item
      6.**  **Exhibits**





*(a)
      Exhibits:*





Exhibit
                (31.1)
            Certification
                of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002Exhibit
                (31.2)
            Certification
                of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002Exhibit
                (32.1)
            Certification
                of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley
                Act of 2002Exhibit
                (32.2)
            Certification
                of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley
                Act of 2002


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          45
          -


**Signatures**





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





**Heritage
      Oaks Bancorp**





DATE:
      May
      9, 2008





/s/
                Lawrence P. WardLawrence
                P. WardPresidentChief
                Executive Officer/s/
                Margaret A. TorresMargaret
                A. TorresExecutive
                Vice PresidentChief
                Financial Officer(Principal
                Financial and Accounting
                Officer)


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          46
          -