Exhibit 13
2003 Annual Report of the Company

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Exhibit 13

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COASTAL BANKING COMPANY, INC.

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2003 ANNUAL REPORT

|                                                            | Page
|----------------------------------------------------------- | ----
|To Our Shareholders                                         |     
|Financial Highlights                                        |     
|Selected Financial Data                                     |     
|Management's Discussion and Analysis of Financial Condition |     
|and Results of Operations                                   |     
|Report of Independent Certified Public Accountants          |     
|Consolidated Financial Statements                           |     
|Notes to Consolidated Financial Statements                  |     
|Corporate and Shareholder Information                       |     

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Coastal Banking
Company, Inc.

Dear Shareholder:

Coastal Banking Company experienced
continued growth and success during 2003. The Company and our wholly owned subsidiary,
Lowcountry National Bank, are well positioned to continue the expansion of our franchise
in the Beaufort, South Carolina area. Our commitment to deliver superior, personal,
friendly, and responsive customer service has been rewarded with solid financial
performance.

We experienced record earnings during
2003. Net income was $864,000, compared to $516,000 for the year ended December 31, 2002.
Basic earnings per share were $0.87 as compared to $0.52 in 2002, while diluted earnings
per share were $0.82 in 2003 compared to $0.52 in 2002. We are also pleased to announce
that the Company declared a five percent stock dividend in early 2004.

Our
balance sheet growth was led by a thirty-eight percent increase in loans to a total of
$68,354,000 as of December 31, 2003. We have not compromised our credit quality while
experiencing this growth. Our non-performing assets and charge-off history remains
negligible as of and for the year ended December 31, 2003. Our allowance for loan losses
has maintained the pace of our loan growth and stands at 1.27% of loans as of December 31,
2003. We also increased our investment securities portfolio in 2003 by approximately
$20,002,720 to take advantage of certain attractive investment options. Because of our
profitability we were able to purchase our first tax-free securities during 2003. Of the
$20,002,720 increase in our securities portfolio, $3,321,000 purchased was in tax-free
securities in order to reduce our effective income tax rate to the Company.

Deposit growth during 2003 was very
strong. At December 31, 2003, total deposits were $96,436,000 compared to $65,948,000 as
of December 31, 2002. This forty-six percent increase in deposits was mainly due to an
increase in our interest-bearing demand accounts. This increase in deposits came from
local depositors and occurred despite an overall decrease in our cost of funds during
2003.

I am pleased to report that during
the second quarter of 2003, we successfully opened our first full-service branch office.
It is located in the Moss Creek Village, Bluffton, SC. This office has progressed well by
contributing $13,562,000 in loans and $5,626,000 in deposits to the above referenced
totals as of December 31, 2003. Management feels this office will be an integral part of
our structure which will allow us to maintain, and/or increase our expected growth level.

We continue to work to improve the
foundation that we feel is necessary for the company to move forward  forward to
sound, increased growth, forward to continued investments in our community, and most
importantly, forward to continued shareholders investment growth. We thank you for
your continued trust and support; and we pledge our continued best efforts to be worthy of
both.

|                      | 
|--------------------- | 
|/s/ Ladson F. Howell  | 
|Ladson F. Howell      | 
|Chairman of the Board | 

-2-

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Financial Highlights

(this page contains graphs and charts
which have been omitted)

-3-

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COASTAL BANKING
COMPANY, INC.SELECTED FINANCIAL DATA

|                                     | 2003 | 2002 | 2001 | 2000       
|------------------------------------ | ---- | ---- | ---- | -----------
|FOR THE YEAR                         |      |      |      |            
|Net interest income                  |      |      | $    | 3,328,024  
|Provision for loan losses            |      |      |      | 253,500    
|Noninterest income                   |      |      |      | 790,667    
|Noninterest expense                  |      |      |      | 2,541,808  
|Income taxes (benefit)               |      |      |      | 458,933    
|Net earnings (loss)                  |      |      |      | 864,450    
|PER COMMON SHARE*                    |      |     
|Basic earnings (loss)                |      |      | $    | 0.87       
|Diluted earnings (loss)              |      |      |      | 0.82       
|Cash dividends declared              |      |      |      | -          
|Book value                           |      |      |      | 9.80       
|AT YEAR END                          |      |     
|Loans, net                           |      |      | $    | 67,488,128 
|Earnings assets                      |      |      |      | 104,034,196
|Assets                               |      |      |      | 107,874,055
|Deposits                             |      |      |      | 96,435,587 
|Shareholders' equity                 |      |      |      | 9,753,467  
|Common shares outstanding*           |      |      |      | 995,695    
|AVERAGE BALANCES                     |      |     
|Loans                                |      |      | $    | 60,860,974 
|Earnings assets                      |      |      |      | 87,772,570 
|Assets                               |      |      |      | 91,417,046 
|Deposits                             |      |      |      | 81,427,295 
|Shareholders' equity                 |      |      |      | 9,375,405  
|Weighted average shares outstanding* |      |      |      | 995,695    
|KEY PERFORMANCE RATIOS               |      |     
|Return on average assets             |      |      |      | 0.98       
|Return on average shareholders'      |      |     
|equity                               |      |      |      | 9.22       
|Net interest margin                  |      |      |      | 3.79       
|Dividend payout ratio                |      |      |      | -          
|Average equity to average assets     |      |      |      | 10.26      

| | * | All per share amounts as well as the common shares outstanding and weighted average shares
outstanding have been restated to reflect a five percent stock dividend effective December
31, 2003.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-4-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF OPERATIONS

General

Coastal Banking Company, Inc. is a
bank holding company headquartered in Beaufort, South Carolina organized to own all of the
common stock of its bank subsidiary, Lowcountry National Bank. The principal activity of
the bank is to provide banking services to domestic markets, principally in Beaufort
County, South Carolina. The Bank is primarily regulated by the Office of the Comptroller
of the Currency (OCC) and undergoes periodic examinations by this regulatory
agency. The holding company is regulated by the Federal Reserve Bank and also is subject
to periodic examinations. The bank opened for business on May 10, 2000 at 36 Sea Island
Parkway, Beaufort, South Carolina 29902.

The following discussion describes
our results of operations for 2003 as compared to 2002 and also analyzes our financial
condition as of December 31, 2003 as compared to December 31, 2002. Like most community
banks, we derive most of our income from interest we receive on our loans and investments.
Our primary source of funds for making these loans and investments is our deposits, on
which we pay interest. Consequently, one of the key measures of our success is our amount
of net interest income, or the difference between the income on our interest-earning
assets, such as loans and investments, and the expense on our interest-bearing
liabilities, such as deposits. Another key measure is the spread between the yield we earn
on these interest-earning assets and the rate we pay on our interest-bearing liabilities.

We have included a number of tables
to assist in our description of these measures. For example, the Average
Balances table shows the average balance during 2003 and 2002 of each category of
our assets and liabilities, as well as the yield we earned or the rate we paid with
respect to each category. A review of this table shows that our loans typically provide
higher interest yields than do other types of interest earning assets, which is why we
intend to channel a substantial percentage of our earning assets into our loan portfolio.
Similarly, the Rate/Volume Analysis table helps demonstrate the impact of
changing interest rates and changing volume of assets and liabilities during the years
shown. We also track the sensitivity of our various categories of assets and liabilities
to changes in interest rates, and we have included a Sensitivity Analysis
Table to help explain this. Finally, we have included a number of tables that
provide detail about our investment securities, our loans, and our deposits.

Of course, there are risks inherent
in all loans, so we maintain an allowance for loan losses to absorb possible losses on
existing loans that may become uncollectible. We establish and maintain this allowance by
charging a provision for loan losses against our operating earnings. In the following
section we have included a detailed discussion of this process, as well as several tables
describing our allowance for loan losses. See comments in the section entitled
Provision and Allowance for Loan Losses.

In addition to earning interest on
our loans and investments, we earn income through fees and other expenses we charge to our
customers. We describe the various components of this noninterest income, as well as our
noninterest expense, in the following discussion.

The following discussion and analysis
also identifies significant factors that have affected our financial position and
operating results during the periods included in the accompanying financial statements. We
encourage you to read this discussion and analysis in conjunction with the financial
statements and the related notes and the other statistical information also included in
this report.

-5-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

Forward-Looking
Statements

This report contains
forward-looking statements relating to, without limitation, future economic
performance, plans and objectives of management for future operations, and projections of
revenues and other financial items that are based on the beliefs of management, as well as
assumptions made by and information currently available to management. The words
may, will, anticipate, should,
would, believe, contemplate, expect,
estimate, continue, may, and intend, as
well as other similar words and expressions of the future, are intended to identify
forward-looking statements. Our actual results may differ materially from the results
discussed in the forward-looking statements, and our operating performance each quarter is
subject to various risks and uncertainties that are discussed in detail in our filings
with the Securities and Exchange Commission, including, without limitation:

| | o | significant increases in competitive pressure in the banking and financial services
industries;
| | - | -----------------------------------------------------------------------------------------------

| | o | changes in the interest rate environment which could reduce anticipated or
actual margins;
| | - | ------------------------------------------------------------------------------------------

| | o | changes in political conditions or the legislative or regulatory
environment;
| | - | -----------------------------------------------------------------------------

| | o | general economic conditions, either nationally or regionally and especially
in primary service area, becoming less favorable expected resulting in, among other things, a deterioration in credit quality;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | o | changes
occurring in business conditions and inflation;
| | - | -------------------------------------------------------

| | o | changes in technology;
| | - | ----------------------

| | o | o changes in
monetary and tax policies;
| | - | ---------------------------------------

| | o | the level of allowance for loan loss;
| | - | -------------------------------------

| | o | the rate of
delinquencies and amounts of charge-offs;
| | - | -----------------------------------------------------

| | o | the rate of loan growth;
| | - | ------------------------

| | o | adverse changes in
asset quality and resulting credit risk-related losses and expenses;
| | - | ---------------------------------------------------------------------------------------

| | o | changes in the
securities markets;
| | - | ----------------------------------

| | o | risks and uncertainties detailed from time to time in our filings
with the Securities and Exchange Commission.
| | - | --------------------------------------------------------------------------------------------------------------

Critical Accounting
Policies

We have adopted various accounting policies,
which govern the application of accounting principles generally accepted in the United
States of America in the preparation of our financial statements. Our significant
accounting policies are described in Note 1 in the footnotes to the consolidated financial
statements at December 31, 2003 included elsewhere in this annual report.

We believe that the allowance for
loan losses is a critical accounting policy that requires the most significant judgments
and estimates used in preparation of our consolidated financial statements. Please refer
to the portion of managements discussion and analysis of financial condition and
results of operations that addresses the allowance for loan losses for a description of
our processes and methodology for determining the allowance for loan losses.

Results of Operations

Overview

Net income for 2003 was $864,000, or
$.87 per common share compared to $516,000, or $.52 per common share in 2002. Our
operational results depend to a large degree on net interest income, which is the
difference between the interest income received from our investments (such as loans,
investment securities, federal funds sold) and interest expense, which is paid on deposit
liabilities and other borrowings. Net interest income was $3,328,000 for the year ended
December 31, 2003 compared to net interest income of $2,345,000 for the year ended
December 31, 2002.

The provision for loan losses in 2003
was $254,000 compared to $232,000 in 2002. The increase in the provision for loan losses
was attributable to the increase in our loan growth during 2003. The provision for loan
losses continues to reflect our estimate of potential losses inherent in the loan
portfolio and the creation of an allowance for loan losses adequate to absorb such losses.

Other operating income for the year
ended December 31, 2003, totaled $791,000, representing a $284,000 (56%) increase from
December 31, 2002. This increase was primarily associated with the increase in mortgage
origination fees during 2003. Other operating expenses in 2003 were $2,542,000, a $706,000
(38%) increase compared with the 2002 amount, primarily due to an increase in salaries and
employee benefits paid related to additional employees hired in 2003 and increased
commissions paid to our mortgage originators.

In 2003, we recognized $459,000 of
income tax expense compared to an income tax expense of $268,000 in 2002. Our effective
tax rate was 35% in 2003 and 34% in 2002.

-6-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF OPERATIONS, continued

Net Interest Income

For the year ended December 31, 2003,
net interest income totaled $3,328,000 as compared to $2,345,000 for the same period in
2002. Interest income from loans, including fees, increased $1,111,000, or 36% to
$4,232,000 for the year ended December 31, 2003. This increase in income was partially
offset by increased interest expense, which totaled $1,830,000 for the year ended December
31, 2003 compared to $1,467,000 in 2002. The increase in net interest income is due to the
overall growth in the volume of interest earning assets, partially offset by decreases in
overall weighted average interest rates. The net interest margin realized on earning
assets and the interest rate spread were 3.79% and 3.48%, respectively, for the year ended
December 31, 2003. For the year ended December 31, 2002, the net interest margin was 4.04%
and the interest rate spread was 3.56%.

Average Balances and
Interest Rates

The table below shows the average
balance outstanding for each category of interest earning assets and interest-bearing
liabilities for 2003 and 2002, and the average rate of interest earned or paid thereon.
Average balances have been derived from the daily balances throughout the period
indicated.

|                                       |  |  | For the Years Ended December 31, |       
|-------------------------------------- |  |  | -------------------------------- | ------
|
|
|
|
|Assets:                                |  |  |                                  |       
|Interest earning assets:               |  | 
|Loans (including loan fees)            |  |  | $                                | 60,861
|Investment securities                  |  |  |                                  | 22,682
|Interest-bearing deposits              |  |  |                                  | -     
|Federal funds sold                     |  |  |                                  | 4,230 
|                                       |  |  |                                  |       
|Total interest earning assets          |  |  |                                  | 87,773
|Other non-interest earning assets      |  |  |                                  | 3,644 
|                                       |  |  |                                  |       
|Total assets                           |  |  | $                                | 91,417
|                                       |  |  |                                  |       
|Liabilities and shareholders' equity:  |  | 
|Interest-bearing liabilities:          |  | 
|Deposits:                              |  | 
|Interest-bearing demand                |  | 
|and savings                            |  |  | $                                | 40,125
|Time                                   |  |  |                                  | 36,330
|Other                                  |  |  |                                  | 47    
|                                       |  |  |                                  |       
|Total interest-bearing                 |  | 
|liabilities                            |  |  |                                  | 76,502
|                                       |  |  |                                  |       
|Other non-interest bearing liabilities |  |  |                                  | 5,540 
|Shareholders' equity                   |  |  |                                  | 9,375 
|                                       |  |  |                                  |       
|Total liabilities and                  |  | 
|shareholders' equity                   |  |  | $                                | 91,417
|                                       |  |  |                                  |       
|Excess of interest-earning assets      |  | 
|over interest bearing liabilities      |  |  | $                                | 11,271
|                                       |  |  |                                  |       
|Ratio of interest-earning assets       |  | 
|to interest-bearing liabilities        |  |  |                                  | 115   
|Net interest income                    |  |  |                                  |       
|                                       |  |  |                                  |       
|Net interest spread                    |  |  |                                  |       
|                                       |  |  |                                  |       
|Net interest margin                    |  |  |                                  |       
|                                       |  |  |                                  |       

Non-accrual loans and the interest
income which was recorded on these loans, if any, are included in the yield calculation
for loans in all periods reported.

-7-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

Volume/Rate Analysis

Net interest income can also be
analyzed in terms of the impact of changing rates and changing volume. The following table
describes the extent to which changes in interest rates and changes in the volume of
interest-earning assets and interest-bearing liabilities have affected our interest income
and interest expense during the periods indicated. The effect of a change in average
balance has been determined by applying the average rate in the earlier year to the change
in average balance in the later year, as compared with the earlier year. The effect of a
change in the average rate has been determined by applying the average balance in the
earlier year to the change in the average rate in the later year, as compared with the
earlier year.

|                                    | 2003 Compared to 2002
|----------------------------------- | ---------------------
|
|
|Interest income on:                 |                      
|Loans (including loan fees)         |                      
|Investment securities               |                      
|Interest-bearing deposits           |                      
|Federal funds sold                  |                      
|                                    |                      
|                                    |                      
|                                    |                      
|Interest expense on:                |                      
|Interest-bearing demand and savings |                      
|Time                                |                      
|Other                               |                      
|                                    |                      
|                                    |                      
|                                    |                      
|                                    |                      
|                                    |                      

Interest Rate Sensitivity
and Asset Liability Management

Interest rate sensitivity measures
the timing and magnitude of the repricing of assets compared with the repricing of
liabilities and is an important part of asset/liability management of a financial
institution. The objective of interest rate sensitivity management is to generate stable
growth in net interest income, and to control the risks associated with interest rate
movements. Management constantly reviews interest rate risk exposure and the expected
interest rate environment so that adjustments in interest rate sensitivity can be timely
made. Since the assets and liabilities of a bank are primarily monetary in nature (payable
in fixed, determinable amounts), the performance of a bank is affected more by changes in
interest rates than by inflation. Interest rates generally increase as the rate of
inflation increases, but the magnitude of the change in rates may not be the same.

Net interest income is the primary
component of net income for financial institutions. Net interest income is affected by the
timing and magnitude of repricing of as well as the mix of interest sensitive and
noninterest sensitive assets and liabilities. Gap is a static measurement of
the difference between the contractual maturities or repricing dates of interest sensitive
assets and interest sensitive liabilities within the following twelve months. Gap is an
attempt to predict the behavior of the banks net interest income in general terms
during periods of movement in interest rates. In general, if the bank is asset sensitive,
more of its interest sensitive assets are expected to reprice within twelve months than
its interest sensitive liabilities over the same period. In a rising interest rate
environment, assets repricing more quickly is expected to enhance net interest income.
Alternatively, decreasing interest rates would be expected to have the opposite effect on
net interest income since assets would theoretically be repricing at lower interest rates
more quickly than interest sensitive liabilities. Although it can be used as a general
predictor, gap as a predictor of movements in net interest income has limitations due to
the static nature of its definition and due to its inherent assumption that all assets
will reprice immediately and fully at the contractually designated time. At December 31,
2003, the bank, as measured by gap, is in a liability sensitive position. Management has
several tools available to it to evaluate and affect interest rate risk, including deposit
pricing policies and changes in the mix of various types of assets and liabilities.

-8-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF
OPERATIONS, continued

The following table summarizes the
amounts of interest-earning assets and interest-bearing liabilities outstanding at
December 31, 2003, that are expected to mature, prepay, or reprice in each of the future
time periods shown. Except as stated below, the amount of assets or liabilities that
mature or reprice during a particular period was determined in accordance with the
contractual terms of the asset or liability. Adjustable rate loans are included in the
period in which interest rates are next scheduled to adjust rather than in the period in
which they are due, and fixed rate loans and mortgage-backed securities are included in
the periods in which they are anticipated to be repaid based on scheduled maturities. The
banks savings accounts and interest-bearing demand accounts (NOW and money market
deposit accounts), which are generally subject to immediate withdrawal, are included in
the Three Months or Less category, although historical experience has proven
these deposits to be more stable over the course of a year.

At December 31, 2003Maturing or Repricing in(dollars in thousands)

|                                           | 3 Months | 4 Months to | 1 to 5 | Over 5  |    |  
|------------------------------------------ | -------- | ----------- | ------ | ------- | -- | -
|
|Interest-earning assets:                   |          |             |        |         |    |  
|Investment securities                      |          |             | $      | 201     |    | $
|Loans held for sale                        |          |             |        | 124     |    |  
|Loans                                      |          |             |        | 22,139  |    |  
|                                           |          |             |        |         |    |  
|Total interest-earning assets              |          |             |        | 22,464  |    |  
|                                           |          |             |        |         |    |  
|Interest-bearing liabilities:              |          |            
|Deposits:                                  |          |            
|Savings and demand                         |          |             |        | 50,585  |    |  
|Time deposits                              |          |             |        | 6,667   |    |  
|Federal funds purchased                    |          |             |        | 600     |    |  
|                                           |          |             |        |         |    |  
|Total interest-bearing liabilities         |          |             |        | 57,852  |    |  
|                                           |          |             |        |         |    |  
|Interest sensitive difference per period   |          |             | $      | (35,388 | )  | $
|                                           |          |             |        |         |    |  
|Cumulative interest sensitivity difference |          |             | $      | (35,388 | )  | $
|                                           |          |             |        |         |    |  
|Cumulative difference to total assets      |          |             |        | (33     | %) |  
|                                           |          |             |        |         |    |  

At December 31, 2003, the difference
between the banks liabilities and assets repricing or maturing within one year was
$45,877,000. Due to an excess of liabilities repricing or maturing within one year, a rise
in interest rates would cause the banks net interest income to decline.

Certain shortcomings are inherent in
the method of analysis presented in the foregoing table. For example, although certain
assets and liabilities may have similar maturities or periods of repricing, they may
reflect changes in market interest rates differently. Additionally, certain assets, such
as adjustable-rate mortgages, have features that restrict changes in interest rates, both
on a short-term basis and over the life of the asset. Other factors which may affect the
assumptions made in the table include changes in interest rates, pre-payment rates, early
withdrawal levels, and the ability of borrowers to service their debt.

Impaired Loans

A loan will be considered to be
impaired when, in managements judgment based on current information and events, it
is probable that the loans principal or interest will not be collectible in
accordance with the terms of the original loan agreement. Impaired loans, when not
material, will be carried in the balance sheet at a value not to exceed their observable
market price or the fair value of the collateral if the repayment of the loan is expected
to be provided solely by the underlying collateral. The carrying values of any material
impaired loans will be measured based on the present value of expected future cash flows
discounted at the loans effective interest rate, which is the contractual interest
rate adjusted for any deferred loan fees or costs, premium or discount existing at the
inception or acquisition of the loan.

-9-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF
OPERATIONS, continued

Loans which management identifies as
impaired generally will be nonperforming loans. Nonperforming loans include nonaccrual
loans or loans which are 90 days or more delinquent as to principal or interest payments.
At December 31, 2003 and 2002, the Bank had no nonaccrual loans or loans 90 days or more
past due and no restructured loans.

Generally, the accrual of interest
will be discontinued on impaired loans and any previously accrued interest on such loans
will be reversed against current income. Any subsequent interest income will be recognized
on a cash basis when received unless collectibility of a significant amount of principal
is in serious doubt. In such cases, collections are credited first to the remaining
principal balance on a cost recovery basis. An impaired loan will not be returned to
accrual status unless principal and interest are current and the borrower has demonstrated
the ability to continue making payments as agreed.

Potential Problem Loans

Management identifies and maintains a
list of potential problem loans. These are loans that are not included in nonaccrual
status, or loans that are past due 90 days or more and still accruing interest. A loan is
added to the potential problem list when management becomes aware of information about
possible credit problems of borrowers that causes serious doubts as to the ability of such
borrowers to comply with the current loan repayment terms. These loans are designated as
such in order to be monitored more closely than other credits in the Banks
portfolio. There were no loans determined by management to be potential problem loans at
December 31, 2003.

Provision and Allowance
for Loan Losses

The provision for loan losses is the
charge to operating earnings that management believes is necessary to maintain the
allowance for loan losses at an adequate level. The provision charged to expense was
$254,000 for the year ended December 31, 2003 as compared to $232,000 for the year ended
December 31, 2002. The change in the provision was the result of loans growing faster in
2003 than in 2002. The loan portfolio increased by approximately $18.4 million during the
year ended December 31, 2003 as compared to growth of $16.5 million in 2002. The allowance
for loan losses was 1.27% of gross loans at December 31, 2003 as compared to 1.26% at
December 31, 2002. There are risks inherent in making all loans, including risks with
respect to the period of time over which loans may be repaid, risks resulting from changes
in economic and industry conditions, risks inherent in dealing with individual borrowers,
and, in the case of a collateralized loan, risks resulting from uncertainties about the
future value of the collateral.

We anticipate maintaining an
allowance for loan losses based on, among other things, historical experience, an
evaluation of economic conditions, and regular reviews of delinquencies and loan portfolio
quality. Our judgment about the adequacy of the allowance is based upon a number of
assumptions about future events, which we believe to be reasonable, but which may not
prove to be accurate. Our losses will undoubtedly vary from our estimates, and there is a
possibility that charge-offs in future periods will exceed the allowance for loan losses
as estimated at any point in time. Thus, there is a risk that substantial additional
increases in the allowance for loan losses could be required. Additions to the allowance
for loan losses would result in a decrease of our net income and, possibly, our capital.

-10-

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MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

The following table summarizes
information concerning the allowance for loan losses:

|                                                | December 31,
|----------------------------------------------- | ------------
|
|
|
|Total loans outstanding, end of year            |             
|                                                |             
|Average loans outstanding                       |             
|                                                |             
|Balance at beginning of year                    |             
|Charge-offs:                                    |             
|Commercial, financial and industrial            |             
|Real estate - construction                      |             
|Real estate - mortgage                          |             
|Consumer                                        |             
|                                                |             
|Total charge-offs                               |             
|                                                |             
|Recoveries:                                     |             
|Commercial, financial and industrial            |             
|Real estate - construction                      |             
|Real estate - mortgage                          |             
|Consumer                                        |             
|                                                |             
|Total recoveries                                |             
|                                                |             
|Net charge-offs                                 |             
|Additions charged to operations                 |             
|                                                |             
|Balance at end of year                          |             
|                                                |             
|Ratio of net charge-offs during the period to   |             
|average loans outstanding during the period     |             
|                                                |             
|Allowance for loan losses to loans, end of year |             
|                                                |             

The following table summarizes past
due and non-accrual loans, other real estate and repossessions, and income that would have
been reported on non-accrual loans as of December 31, 2003 and 2002 (amounts are presented
in thousands):

|                                        | December 31,
|--------------------------------------- | ------------
|
|Other real estate and repossessions     |             
|Accruing loans 90 days or more past due |             
|Non-accrual loans                       |             
|Interest on non-accrual loans which     |             
|would have been reported                |             

Noninterest Income and
Expense

Noninterest income for the year ended
December 31, 2003 totaled $791,000 as compared to $507,000 for the year ended December 31,
2002. This increase in noninterest income was primarily due to an increase in residential
mortgage origination fees and an increase in service charges on deposit accounts during
2003. Residential mortgage origination fees totaled $542,000 and $304,000 in 2003 and
2002, respectively. Lower market interest rates created significant refinancing volume in
the residential mortgage market and we were able to grow our business in this area with
additional personnel added for the 2003 period. We also recognized a gain on the sale of
certain investment securities available for sale totaling $42,000 during the year ended
December 31, 2003 as compared to gains of $34,000 in 2002.

-11-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF
OPERATIONS, continued

Total noninterest expense for the
year ended December 31, 2003 was $2,542,000 as compared to $1,836,000 for the same period
in 2002. Salaries and benefits, the largest component of noninterest expense, totaled
$1,400,000 for the year ended December 31, 2003, compared to $982,000 for the same period
a year ago. Other operating expenses were $865,000 for the year ended December 31, 2003 as
compared to $628,000 for the year ended December 31, 2002. This increase in noninterest
expense was due to the continued growth of the bank.

Financial Condition

Total assets increased $32,177,000 or
42% from December 31, 2002 to December 31, 2003. The primary sources of growth in assets
was net loans, which increased $18,422,000 or 38%, and investment securities, which
increased $19,924,000 or 135% during the year ended December 31, 2003. Total deposits
increased $30,488,000 or 46% from the December 31, 2002 amount of $65,948,000 to
$96,436,000 at December 31, 2003.

Interest-Earning Assets

Loans

Gross loans totaled $68,354,000 at
December 31, 2003, an increase of $18,664,000 or 38% since December 31, 2002. The largest
increase in loans was in real estate  mortgage loans, which increased $11,034,000 or
35% to $42,303,000 at December 31, 2003. Real estate  construction loans increased
$7,307,000 during 2003. Balances within the major loans receivable categories as of
December 31, 2003 and December 31, 2002 are as follows (amounts in thousands):

|                                     | 2003 | 2002
|------------------------------------ | ---- | ----
|Real estate - construction           |      |     
|Real estate - mortgage               |      |     
|Commercial, financial and industrial |      |     
|Consumer and other                   |      |     
|                                     |      |     
|                                     |      |     
|                                     |      |     

As of December 31, 2003, maturities
of loans in the indicated classifications were as follows (amounts are presented in
thousands):

|              |  | Real Estate |  
|------------- |  | ----------- | -
|
|Maturity      |  |             |  
|Within 1 year |  |             | $
|1 to 5 years  |  |             |  
|Over 5 years  |  |             |  
|              |  |             |  
|Totals        |  |             | $
|              |  |             |  

-12-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

As of December 31, 2003, the interest
terms of loans in the indicated classification for the indicated maturity ranges are as
follows (amounts are presented in thousands):

|                           | Fixed Interest | Variable Interest |  
|-------------------------- | -------------- | ----------------- | -
|
|Commercial                 |                |                   |  
|1 to 5 years               |                |                   | $
|Over 5 years               |                |                   |  
|Real estate - construction |                |                  
|1 to 5 years               |                |                   |  
|Over 5 years               |                |                   |  
|                           |                |                   |  
|                           |                |                   | $
|                           |                |                   |  

Investment Securities

Investment securities available for
sale increased to $31,274,000 at December 31, 2003 from $14,672,000 at December 31, 2002.
Investment securities held to maturity increased from $100,000 at December 31, 2002 to
$3,421,000 at December 31, 2003. These increases were the result of an increase in
deposits being invested in securities.

The following table presents the
investments by category at December 31, 2003 and 2002:

|                             | 2003 | 2002
|---------------------------- | ---- | ----
|
|
|
|Available for Sale           |      |     
|Federal agencies             |      |     
|Mortgage-backed              |      |     
|                             |      |     
|                             |      |     
|                             |      |     
|Held to maturity             |      |     
|State, county and municipals |      |     
|                             |      |     

The following table presents the maturities
of investment securities at carrying value and the weighted average yields for each range
of maturities presented. Yields are based on amortized cost of securities. (Amounts are
presented in thousands)

|                         | State, | Weighted |   | Weighted |  | Weighted
|------------------------ | ------ | -------- | - | -------- |  | --------
|
|
|Maturities at            |        |          |   |          |  |         
|December 31, 2003        |        |         
|Within 1 year            |        |          | $ | -        |  |         
|After 1 through 5 years  |        |          |   | -        |  |         
|After 5 through 10 years |        |          |   | 500      |  |         
|After 10 years           |        |          |   | 2,921    |  |         
|                         |        |          |   |          |  |         
|Totals                   |        |          | $ | 3,421    |  |         
|                         |        |          |   |          |  |         

Mortgage-backed securities are
included in the maturities categories in which they are anticipated to be repaid based on
scheduled maturities.

-13-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

Deposits

At December 31, 2003, total deposits
increased by $30,488,000 or 46% from December 31, 2002. Noninterest-bearing demand
deposits decreased $882,000 or 15% while interest-bearing deposits increased $31,370,000
or 52%.

Balances within the major deposit
categories as of December 31, 2003 and December 31, 2002 as follows (amounts in
thousands):

|                                          | 2003 | 2002
|----------------------------------------- | ---- | ----
|Noninterest-bearing demand deposits       |      |     
|Interest-bearing demand deposits          |      |     
|Savings deposits                          |      |     
|Certificates of deposit $100,000 and over |      |     
|Other time deposits                       |      |     
|                                          |      |     
|                                          |      |     
|                                          |      |     

The average balance of deposits and
the average rates paid on such deposits are summarized for the periods indicated in the
following table.

|                           |  | December 31, |  
|-------------------------- |  | ------------ | -
|
|
|
|Noninterest-bearing demand |  |              | $
|Interest-bearing demand    |  |              |  
|Savings                    |  |              |  
|Time deposits              |  |              |  
|                           |  |              |  
|Totals                     |  |              | $
|                           |  |              |  

Maturities of time certificates of
deposit of $100,000 or more outstanding at December 31, 2003, are summarized as follows
(amounts are presented in thousands):

|                          | 
|------------------------- | 
|
|
|
|Within 3 months           | 
|After 3 through 6 months  | 
|After 6 through 12 months | 
|After 12 months           | 
|                          | 
|Total                     | 
|                          | 

-14-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF
OPERATIONS, continued

Capital Resources

Total shareholders equity
increased from $9,037,000 at December 31, 2002 to $9,753,000 at December 31, 2003. This
increase was attributable to net earnings for the period partially offset by a decrease of
$148,000 in the fair value of securities available for sale, net of tax.

Bank holding companies, such as us,
and their banking subsidiaries are required by banking regulators to meet certain minimum
levels of capital adequacy, which are expressed in the form of certain ratios. Capital is
separated into Tier 1 capital (essentially common shareholders equity less
intangible assets) and Tier 2 capital (essentially the allowance for loan losses limited
to 1.25% of risk-weighted assets). The first two ratios, which are based on the degree of
credit risk in our assets, provide the weighting of assets based on assigned risk factors
and include off-balance sheet items such as loan commitments and stand-by letters of
credit. The ratio of Tier 1 capital to risk-weighted assets must be at least 4.0% and the
ratio of total capital (Tier 1 capital plus Tier 2 capital) to risk-weighted assets must
be at least 8.0%. The capital leverage ratio supplements the risk-based capital
guidelines.

The Federal Reserve guidelines also
contain an exemption from the capital requirements for bank holding companies with less
than $150 million in consolidated assets. Because Coastal Banking Company, Inc. has less
than $150 million in assets, it currently is not subject to these guidelines. However,
Lowcountry National Bank falls under these rules as set by bank regulatory agencies.

Banks and bank holding companies are
required to maintain a minimum ratio of Tier 1 capital to adjusted quarterly average total
assets of 3.0%.

The following table summarizes the
banks risk-based capital ratios at December 31, 2003:

|Tier 1 capital (to risk-weighted assets) |  |  |  | 10 | .50%
|---------------------------------------- |  |  |  | -- | ----
|Total capital (to risk-weighted assets)  |  |  |  | 11 | .65%
|Tier 1 capital (to total average assets) |  |  |  | 7  | .59%

Liquidity

The bank must maintain, on a daily basis,
sufficient funds to cover the withdrawals from depositors accounts and to supply new
borrowers with funds. To meet these obligations, the bank keeps cash on hand, maintains
account balances with its correspondent banks, and purchases and sells federal funds and
other short-term investments. Asset and liability maturities are monitored in an attempt
to match the maturities to meet liquidity needs. It is the policy of the bank to monitor
its liquidity to meet regulatory requirements and their local funding requirements.

We are a party to financial
instruments with off-balance-sheet risk in the normal course of business to meet the
financing needs of our customers. These financial instruments consist of commitments to
extend credit, standby letters of credit and loans sold with limited recourse. 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. Standby letters of credit are written
conditional commitments issued by the Bank to guarantee the performance of a customer to a
third party. Commitments generally have fixed expiration dates or other termination
clauses and may require payment of a fee. A commitment involves, to varying degrees,
elements of credit and interest rate risk in excess of the amount recognized in the
balance sheets. Our exposure to credit loss in the event of non-performance by the other
party to the instrument is represented by the contractual notional amount of the
instrument.

Since certain commitments are
expected to expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. We use the same credit policies in making
commitments to extend credit as we do for on-balance-sheet instruments. Collateral held
for commitments to extend credit varies but may include accounts receivable, inventory,
property, plant, equipment, and income-producing commercial properties.

Loans sold with limited recourse are
1-4 family residential mortgages originated by us and sold to various other financial
institutions. These loans are sold with the agreement that a loan may be returned to us
within 90 days of any one of the loans first four payments being missed. Our
exposure to credit loss in the event of nonperformance by the other party to the loan is
represented by the contractual notional amount of the loan. Since none of the loans sold
have ever been returned to us, the total loans sold with limited recourse amount does not
necessarily represent future cash requirements. We use the same credit policies in making
loans held for sale as we do for on-balance-sheet instruments.

-15-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

The following table summarizes our
off-balance-sheet financial instruments whose contract amounts represent credit risk as of
December 31, 2003:

|                                 | 
|-------------------------------- | 
|Commitments to extend credit     | 
|Standby letters of credit        | 
|Loans sold with limited recourse | 

Management is not aware of any
significant concentrations of loans to classes of borrowers or industries that would be
affected similarly by economic conditions. Although the banks loan portfolio is
diversified, a substantial portion of its borrowers ability to honor the terms of
their loans is dependent on the economic conditions in Beaufort County and surrounding
areas.

The bank maintains relationships with
correspondent banks that can provide funds to it on short notice, if needed. Presently,
the bank has arrangements with a commercial bank for short term unsecured advances up to
$5,050,000.

Cash and cash equivalents as of
December 31, 2003 decreased $3,986,000 from December 31, 2002. Cash provided by operating
activities totaled $4,224,000 in 2003, while inflows from financing activities totaled
$31,088,000, which was attributable to an increase in deposits.

During 2003, investing activities
used $39,298,000. Investing activities included net loans made to customers of
approximately $18,676,000 and purchases of investment securities of $32,387,000, partially
offset by sales and maturities of investment securities available for sale of
approximately $12,113,000.

Inflation

Inflation impacts the growth in total
assets in the banking industry and causes a need to increase equity capital at higher than
normal rates to meet capital adequacy requirements. We cope with the effects of inflation
through the management of interest rate sensitivity gap position, by periodically
reviewing and adjusting its pricing of services to consider current costs and through
managing our level of net income relative to our dividend payout policy.

Selected Ratios

The following table sets out certain
ratios for the years indicated.

|                                 | 2003 | 2002
|-------------------------------- | ---- | ----
|Net income to:                   |      |     
|Average shareholders' equity     |      |     
|Average assets                   |      |     
|Dividends to net income          |      |     
|Average equity to average assets |      |     

Recent Accounting
Pronouncements

In December 2002, the Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting
Standards (SFAS) No. 148,Accounting for Stock-based
CompensationTransition and Disclosure, an amendment of FASB Statement No. 123,
Accounting for Stock-Based Compensation, to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting for
stock-based employee compensation. SFAS No. 148 also amends the disclosure provisions
of SFAS No. 123 and Accounting Principles Board (APB) Opinion
No. 28,Interim Financial Reporting, to require disclosure in the summary of
significant accounting policies of the effects of an entitys accounting policy with
respect to stock-based employee compensation on reported net income and earnings per share
in annual and interim financial statements. While SFAS No. 148 does not amend SFAS
No. 123 to require companies to account for employee stock options using the fair
value method, the disclosure provisions of SFAS No. 148 are applicable to all
companies with stock-based employee compensation, regardless of whether they account for
that compensation using the fair value method of SFAS No. 123 or the intrinsic value
method of APB Opinion No. 25. The provisions of SFAS No. 148 are effective for
annual financial statements for fiscal years ending after December 15, 2002, and for
financial reports containing condensed financial statements for interim periods beginning
after December 15, 2002. The Company has elected to account for its stock-based
compensation using the intrinsic value method

-16-

---

MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, continued

of APB Opinion No. 25
and the adoption of SFAS No. 148 did not have a material impact on the financial
condition or operating resultsof the Company.

In April 2003, the FASB issued SFAS
No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities.
SFAS No. 149 amends and clarifies accounting for derivative instruments, including
certain derivative instruments embedded in other contracts and loan commitments that
relate to the origination of mortgage loans held for sale, and for hedging activities
under SFAS No. 133. SFAS No. 149 is generally effective for contracts entered
into or modified after June 30, 2003. The adoption of SFAS No. 149 did not have
a material impact on the financial condition or operating results of the Company.

In May 2003, the FASB issued SFAS
No. 150,Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity. SFAS No. 150 establishes standards for how an issuer
classifies and measures certain financial instruments with characteristics of both
liabilities and equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances.) Many of those
instruments were previously classified as equity. SFAS No. 150 is generally effective
for financial instruments entered into or modified after May 31, 2003, and otherwise
is effective at the beginning of the first interim period beginning after June 15,
2003. The adoption of SFAS No. 150 did not have a material impact on the financial
condition or operating results of the Company.

In November 2002, the FASB issued
FASB Interpretation (FIN) No. 45, Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN
No. 45 requires a company, at the time it issues a guarantee, to recognize an initial
liability for the fair value of obligations assumed under the guarantee and elaborates on
existing disclosure requirements related to guarantees and warranties. The initial
recognition requirements of FIN No. 45 are effective for guarantees issued or modified
after December 31, 2002. The disclosure requirements are effective for financial
statements of periods ending after December 15, 2002. The adoption of FIN No. 45 did not
have a material impact on the Companys financial position or results of operations.

In January 2003, the FASB issued
FIN No. 46,Consolidation of Variable Interest Entities. FIN No. 46 requires a
variable interest entity to be consolidated by a company if that company is subject to a
majority of the risk of loss from the variable interest entitys activities or
entitled to receive a majority of the entitys residual returns, or both. FIN No. 46
also requires disclosures about variable interest entities that a company is not required
to consolidate, but in which it has a significant variable interest. FIN No. 46 provides
guidance for determining whether an entity qualifies as a variable interest entity by
considering, among other considerations, whether the entity lacks sufficient equity or its
equity holders lack adequate decision-making ability. The consolidation requirements of
FIN No. 46 apply immediately to variable interest entities created after January 31,
2003. The consolidation requirements apply to existing entities in the first fiscal year
or interim period beginning after June 15, 2003. Certain of the disclosure
requirements apply in all financial statements issued after January 31, 2003,
regardless of when the variable interest entity was established. The adoption of FIN No.
46 did not have a material impact on the Companys financial position or results of
operations.

In November 2003, the Emerging Issues
Task Force (EITF) reached a consensus that certain quantitative and
qualitative disclosures should be required for debt and marketable equity securities
classified as available for sale or held to maturity under SFAS No. 115 and SFAS No. 124
that are impaired at the balance sheet date but for which an other-than-temporary
impairment has not been recognized. Accordingly the EITF issued EITF No. 03-1,The Meaning
of Other-Than-Temporary Impairment and Its Application to Certain Investments. This issue
addresses the meaning of other-than-temporary impairment and its application to
investments classified as either available for sale or held to maturity under SFAS No. 115
and provides guidance on quantitative and qualitative disclosures. EITF No. 03-1 is
effective for fiscal years ending after December 15, 2003. Adopting the disclosure
provisions of EITF No. 03-1 did not have a material impact on the Companys financial
position or results of operations.

Other accounting standards that have
been issued or proposed by the FASB or other standards-setting bodies that do not require
adoption until a future date are not expected to have a material impact on the
consolidated financial statements upon adoption.

-17-

---

REPORT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS

Board of DirectorsCoastal
Banking Company, Inc.Beaufort,  South Carolina

We
have audited the accompanying consolidated balance sheets of Coastal Banking Company, Inc.
(the Company) and Subsidiary as of December 31, 2003 and 2002 and the related
consolidated statements of earnings, changes in shareholders equity, comprehensive
income and cash flows for the years then ended. These consolidated financial statements
are the responsibility of the Companys management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.

We
conducted our audits in accordance with auditing standards generally accepted in the
United States of America. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the consolidated financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the consolidated financial statements. An audit
also includes assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.

In
our opinion, the consolidated financial statements referred to above present fairly, in
all material respects, the financial position of Coastal Banking Company, Inc. and
Subsidiary at December 31, 2003 and 2002 and the results of their operations and cash
flows for the years then ended in conformity with accounting principles generally accepted
in the United States of America.

/s/ Elliott Davis, LLCElliott
Davis, LLC

Greenville, South CarolinaJanuary 30,
2004, except for Note 16, as to            which
the date is February 19, 2004

-18-

---

COASTAL BANKING
COMPANY, INC.

Consolidated Balance
Sheets

|                                                                             | December 31, | 
|---------------------------------------------------------------------------- | ------------ | 
|
|Assets                                                                       |              | 
|Cash and due from banks                                                      |              | 
|Federal funds sold                                                           |              | 
|                                                                             |              | 
|Cash and cash equivalents                                                    |              | 
|Investment securities available for sale                                     |              | 
|Investment securities held to maturity (fair value of $3,352,500 in 2003 and |              | 
|$100,183 in 2002)                                                            |              | 
|Other investments, at cost                                                   |              | 
|Loans held for sale                                                          |              | 
|Loans, net                                                                   |              | 
|Premises and equipment, net                                                  |              | 
|Accrued interest receivable and other assets                                 |              | 
|                                                                             |              | 
|Total assets                                                                 |              | 
|                                                                             |              | 
|Liabilities and Shareholders' Equity                                         |              | 
|Deposits:                                                                    |              | 
|Demand                                                                       |              | 
|Money market and NOW accounts                                                |              | 
|Savings                                                                      |              | 
|Time                                                                         |              | 
|Time over $100,000                                                           |              | 
|                                                                             |              | 
|Total deposits                                                               |              | 
|Federal funds purchased                                                      |              | 
|Accrued interest payable and other liabilities                               |              | 
|                                                                             |              | 
|Total liabilities                                                            |              | 
|                                                                             |              | 
|Commitments and contingencies - Notes 5, 9 and 11                            |              | 
|Shareholders' equity:                                                        |              | 
|Preferred stock, $.01 par value; 10,000,000 shares                           |              | 
|authorized; no shares issued and outstanding                                 |              | 
|Common stock, par value $.01; 10,000,000 shares authorized; 995,695 and      |              | 
|948,281 shares issued and outstanding in 2003 and 2002, respectively         |              | 
|Additional paid-in capital                                                   |              | 
|Retained earnings                                                            |              | 
|Accumulated other comprehensive income                                       |              | 
|                                                                             |              | 
|Total shareholders' equity                                                   |              | 
|                                                                             |              | 
|Total liabilities and shareholders' equity                                   |              | 
|                                                                             |              | 

See accompanying notes to
consolidated financial statements.

-19-

---

COASTAL BANKING
COMPANY, INC.

Consolidated Statements
of Earnings

|                                                    | For the years ended December 31,
|--------------------------------------------------- | --------------------------------
|
|Interest income:                                    |                                 
|Loans and fees on loans                             |                                 
|Investment securities                               |                                 
|Federal funds sold                                  |                                 
|Interest-bearing deposits                           |                                 
|                                                    |                                 
|Total interest income                               |                                 
|                                                    |                                 
|Interest expense:                                   |                                 
|Deposits                                            |                                 
|Other                                               |                                 
|                                                    |                                 
|Total interest expense                              |                                 
|                                                    |                                 
|Net interest income                                 |                                 
|Provision for loan losses                           |                                 
|                                                    |                                 
|Net interest income after provision for loan losses |                                 
|                                                    |                                 
|Other income:                                       |                                 
|Service charges on deposit accounts                 |                                 
|Residential mortgage origination fees               |                                 
|Gain on sale of securities                          |                                 
|Other income                                        |                                 
|                                                    |                                 
|Total other income                                  |                                 
|                                                    |                                 
|Other expenses:                                     |                                 
|Salaries and employee benefits                      |                                 
|Occupancy and equipment                             |                                 
|Other operating                                     |                                 
|                                                    |                                 
|Total other expenses                                |                                 
|                                                    |                                 
|Earnings before income taxes                        |                                 
|Income tax expense                                  |                                 
|                                                    |                                 
|Net earnings                                        |                                 
|                                                    |                                 
|Basic earnings per share                            |                                 
|                                                    |                                 
|Diluted earnings per share                          |                                 
|                                                    |                                 

See accompanying notes to
consolidated financial statements.

-20-

---

COASTAL BANKING
COMPANY, INC.

Consolidated Statements
of Comprehensive Income

|                                                            | For the years ended December 31,
|----------------------------------------------------------- | --------------------------------
|
|Net earnings                                                |                                 
|                                                            |                                 
|Other comprehensive income (loss), net of tax:              |                                 
|Unrealized gains (losses) on investment securities          |                                 
|available for sale arising during the period, net of        |                                 
|tax of $61,704 in 2003 and $119,289 in 2002                 |                                 
|Reclassification adjustment for gains included in net       |                                 
|earnings, net of tax of $14,371 in 2003 and $11,488 in 2002 |                                 
|                                                            |                                 
|Total other comprehensive income (loss), net of tax         |                                 
|                                                            |                                 
|Comprehensive income                                        |                                 
|                                                            |                                 

See accompanying notes to
consolidated financial statements.

-21-

---

COASTAL BANKING
COMPANY, INC.

Consolidated Statements
of Changes in Shareholders Equity

For the Years Ended
December 31, 2003 and 2002

|                            |  |  |  | Retained | Accumulated |  
|--------------------------- |  |  |  | -------- | ----------- | -
|
|
|
|Balance, December 31, 2001  |  |  |  | 948,281  |             | $
|Change in unrealized gain   |  | 
|on securities available for |  | 
|sale, net of tax            |  |  |  | -        |             |  
|Net earnings                |  |  |  | -        |             |  
|                            |  |  |  |          |             |  
|Balance, December 31, 2002  |  |  |  | 948,281  |             |  
|Change in unrealized gain   |  | 
|on securities available for |  | 
|sale, net of tax            |  |  |  | -        |             |  
|Stock dividend              |  |  |  | 47,414   |             |  
|Net earnings                |  |  |  | -        |             |  
|                            |  |  |  |          |             |  
|Balance, December 31, 2003  |  |  |  | 995,695  |             | $
|                            |  |  |  |          |             |  

See accompanying notes to
consolidated financial statements.

-22-

---

COASTAL BANKING
COMPANY, INC.

Consolidated Statements
of Cash Flows

|                                                                | For the years ended December 31,
|--------------------------------------------------------------- | --------------------------------
|
|Cash flows from operating activities:                           |                                 
|Net earnings                                                    |                                 
|Adjustments to reconcile net earnings to net                    |                                 
|cash provided by operating activities:                          |                                 
|Depreciation, amortization and accretion                        |                                 
|Provision for loan losses                                       |                                 
|Provision for deferred income taxes (benefit)                   |                                 
|Gain on sale of securities available for sale                   |                                 
|Disbursements for loans held for sale                           |                                 
|Proceeds from sale of loans held for sale                       |                                 
|Change in other assets and other liabilities                    |                                 
|                                                                |                                 
|Net cash provided by operating activities                       |                                 
|                                                                |                                 
|Cash flows from investing activities:                           |                                 
|Net change in interest-bearing deposits                         |                                 
|Proceeds from calls and maturities of investment securities     |                                 
|Available for sale                                              |                                 
|Proceeds from sales of investment securities available for sale |                                 
|Purchases of investment securities available for sale           |                                 
|Purchases of investment securities held to maturity             |                                 
|Purchases of other investments                                  |                                 
|Net change in loans                                             |                                 
|Purchase of premises and equipment                              |                                 
|                                                                |                                 
|Net cash used by investing activities                           |                                 
|                                                                |                                 
|Cash flows from financing activities:                           |                                 
|Net change in deposits                                          |                                 
|Net change in federal funds purchased                           |                                 
|                                                                |                                 
|Net cash provided by financing activities                       |                                 
|                                                                |                                 
|Net change in cash and cash equivalents                         |                                 
|Cash and cash equivalents at beginning of year                  |                                 
|                                                                |                                 
|Cash and cash equivalents at end of year                        |                                 
|                                                                |                                 
|Supplemental schedule of noncash investing and financing        |                                 
|activities consisting of change in unrealized gain/loss         |                                 
|on investment securities available for sale, net of tax         |                                 
|Supplemental disclosures of cash flow information:              |                                 
|Cash paid during the year for interest                          |                                 
|Cash paid during the year for income taxes                      |                                 

See accompanying notes to
consolidated financial statements.

-23-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements

(1)    Summary of Significant Accounting Policies

| | Basis of Presentation and Nature of Operations
The consolidated financial statements include the accounts of Coastal Banking Company, Inc.
(the Company) and its wholly owned subsidiary, Lowcountry National Bank (the
Bank). All significant intercompany accounts and transactions have been
eliminated in consolidation.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Bank commenced business on May 10, 2000 upon receipt of its banking charter from the
Office of the Comptroller of the Currency (the OCC). The Bank is primarily
regulated by the OCC and undergoes periodic examinations by this regulatory agency. The
Company is regulated by the Federal Reserve Bank and also is subject to periodic
examinations. The Bank provides a full range of commercial and consumer banking services
throughout the Beaufort County area in South Carolina.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
accounting principles followed by the Company and the Bank, and the methods of applying
these principles, conform with accounting principles generally accepted in the United
States of America (GAAP) and with general practices in the banking industry.
In preparing the financial statements in conformity with GAAP, management is required to
make estimates and assumptions that affect the reported amounts in the financial
statements. Actual results could differ significantly from these estimates. Material
estimates common to the banking industry that are particularly susceptible to significant
change in the near term include, but are not limited to, the determination of the
allowance for loan losses, the valuation of real estate acquired in connection with or in
lieu of foreclosure on loans, and valuation allowances associated with the realization of
deferred tax assets, which are based on future taxable income.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Cash and Cash Equivalents
Cash
equivalents include amounts due from banks, interest-bearing demand deposits with banks
and federal funds sold. Generally, federal funds are sold for one-day periods.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Investment Securities
The
Company classifies its securities in one of three categories: trading, available for sale,
or held to maturity. Trading securities are bought and held principally for the purpose of
selling them in the near term. Held to maturity securities are those securities for which
the Company has the ability and intent to hold until maturity. All securities not included
in trading or held to maturity are classified as available for sale. The Company has no
trading securities.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Trading
and available for sale securities are recorded at fair value. Held to maturity securities
are recorded at cost, adjusted for the amortization or accretion of premiums or discounts.
Unrealized gains and losses on trading securities are recognized in earnings. Unrealized
holding gains and losses, net of the related tax effect, on securities available for sale
are excluded from earnings and are reported as a separate component of shareholders
equity until realized. Transfers of securities between categories are recorded at fair
value at the date of transfer.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | A
decline in the market value of any available for sale or held to maturity security below
cost that is deemed other than temporary is charged to earnings and establishes a new cost
basis for the security.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Premiums
and discounts are amortized or accreted over the life of the related securities as
adjustments to the yield. Realized gains and losses for securities classified as available
for sale and held to maturity are included in earnings and are derived using the specific
identification method for determining the cost of securities sold.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Other Investments
Other
investments include equity securities with no readily determinable fair value. These
investments are carried at cost. The Bank, as a member institution, is required to own
certain stock investments in the Federal Home Loan Bank of Atlanta (FHLB) and
the Federal Reserve Bank (FRB). The stock is generally pledged against any
borrowings from these institutions. No ready market exists for the stock and it has no
quoted market price. However, redemption of these stocks has historically been at par
value.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-24-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(1)    Summary of Significant Accounting Policies,
continued

| | Loans
originated and intended for sale in the secondary market are carried at the lower of
aggregate cost or market value. The amount by which cost exceeds market value is accounted
for as a valuation allowance. Changes, if any, in the valuation allowance are included in
the determination of net earnings in the period in which the change occurs. The Company
has recorded no valuation allowance related to its loans held for sale as their cost
approximates market value.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Loans and Allowance for Loan Losses
Loans
are stated at principal amount outstanding, net of the allowance for loan losses. Interest
on loans is calculated by using the interest method based upon the principal amount
outstanding. Loan origination and commitment fees and direct loan origination costs are
deferred and amortized over the contractual life of the related loan or commitments as an
adjustment of the related loan yields.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | A
loan is considered impaired when, based on current information and events, it is probable
that all amounts due according to the contractual terms of the loan agreement will not be
collected. Impaired loans are measured based on the present value of expected future cash
flows discounted at the loans effective interest rate, or at the loans
observable market price, or at the fair value of the collateral of the loan if the loan is
collateral dependent. Accrual of interest is discontinued on a loan when management
believes, after considering economic and business conditions and collection efforts that
the borrowers financial condition is such that collection of interest is doubtful.
When the ultimate collectibility of an impaired loans principal is in doubt, wholly
or partially, all cash receipts are applied to principal.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
allowance for loan losses is established through a provision for loan losses charged to
expense. Loans are charged against the allowance for loan losses when management believes
that the collectibility of the principal is unlikely. The allowance represents an amount,
which, in managements judgment, will be adequate to absorb probable losses on
existing loans that may become uncollectible.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Managements
judgment in determining the adequacy of the allowance is based on evaluations of the
collectibility of loans. These evaluations take into consideration such factors as changes
in the nature and volume of the loan portfolio, current economic conditions that may
affect the borrowers ability to pay, overall portfolio quality and review of
specific problem loans. In determining the adequacy of the allowance for loan losses
management uses four different methods as indicators of the reasonableness of the
allowance. The methods used include a risk method (using internal classifications along
with regulatory classifications), historical charge-offs, comparison to a peer group, and
current classifications based on the loan grading system. The combination of these results
are compared quarterly to the recorded allowance for loan losses for reasonableness and
material differences are adjusted by increasing or decreasing the provision for loan
losses. Management uses an external loan review program to challenge and corroborate the
internal loan grading system and provide additional analysis in determining the adequacy
of the allowance and the future provisions for estimated loan losses.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Management
believes that the allowance for loan losses is adequate. While management uses available
information to recognize losses on loans, future additions to the allowance may be
necessary based on changes in economic conditions. In addition, various regulatory
agencies, as an integral part of their examination process, periodically review the
Banks allowance for loan losses. Such agencies may require the Bank to recognize
additions to the allowance based on judgments different than those of management.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Non-performing Assets
Loans
are placed in a non-accrual status when, in the opinion of management, the collection of
additional interest is questionable. Thereafter, no interest is taken into income unless
received in cash or until such time as the borrower demonstrates the ability to pay
principal and interest.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-25-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(1)     Summary of Significant Accounting Policies,
continued

| | Premises and Equipment
Premises
and equipment are stated at cost less accumulated depreciation. Costs incurred for
maintenance and repairs that do not extend the useful life of the asset are expensed as
incurred.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Depreciation
expense is computed using the straight-line method over the following estimated useful
lives:
| | ----------------------------------------------------------------------------------------------------------

|                          | 
|------------------------- | 
|
|
|
|Building and improvements | 
|Furniture and equipment   | 

| | Advertising Costs
The
Company expenses all advertising costs as incurred. Advertising costs for the Company were
approximately $64,000 and $50,000 for the years ended December 31, 2003 and 2002.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

| | In
the event the future tax consequences of differences between the financial reporting bases
and the tax bases of the assets and liabilities results in deferred tax assets, an
evaluation of the probability of being able to realize the future benefits indicated by
such asset is required. A valuation allowance is provided for the portion of the deferred
tax asset when it is more likely than not that some portion or all of the deferred tax
asset will not be realized. In assessing the realizability of the deferred tax assets,
management considers the scheduled reversals of deferred tax liabilities, projected future
taxable income, and tax planning strategies.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Stock-Based Compensation
At
December 31, 2003, the Company sponsors stock-based compensation plans, which are
described more fully in Note 12. The Company accounts for these plans under the
recognition and measurement principles of Accounting Principles Board (APB)
Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No
stock-based employee compensation cost is reflected in net earnings, as all options
granted under those plans had an exercise price equal to the market value of the
underlying common stock on the date of grant. The following table illustrates the effect
on net earnings and earnings per share if the Company had applied the fair value
recognition provisions of Statement of Financial Accounting Standards (SFAS)
No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation for
the years ended December 31, 2003 and 2002.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                                        | For the Year Ended
|------------------------------------------------------- | ------------------
|
|
|Net earnings as reported                                |                   
|Deduct: Total stock-based employee compensation expense |                   
|determined under fair-value based method for all awards |                   
|                                                        |                   
|Pro forma net earnings                                  |                   
|                                                        |                   
|Basic earnings per share:                               |                   
|As reported                                             |                   
|                                                        |                   
|Pro forma                                               |                   
|                                                        |                   
|Diluted earnings per share:                             |                   
|As reported                                             |                   
|                                                        |                   
|Pro forma                                               |                   
|                                                        |                   

-26-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(1)    Summary of Significant Accounting Policies,
continued

| | Net Earnings Per Common Share
The
Company is required to report earnings per common share with and without the dilutive
effects of potential common stock issuances from instruments such as options, convertible
securities and warrants on the face of the statements of earnings. Basic earnings per
common share are based on the weighted average number of common shares outstanding during
the period, which was 995,695 in 2003 and 2002, while the effects of potential common
shares outstanding during the period are included in diluted earnings per share.
Additionally, the Company must reconcile the amounts used in the computation of both
basic earnings per share and diluted earnings per share. For the
year ended December 31, 2002, the potential effect of outstanding options would be
antidilutive, and therefore is not presented. Antidilutive potential common shares totaled
298,636 at December 31, 2002. Earnings per common share amounts for the year ended
December 31, 2003 are as follows:
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                              | Net Earnings | Common Share | Per Share
|--------------------------------------------- | ------------ | ------------ | ---------
|
|Basic earnings per share                      |              |              | $        
|Effect of dilutive securities - stock options |              |             
|and warrants                                  |              |              |          
|                                              |              |              |          
|Diluted earnings per share                    |              |              | $        
|                                              |              |              |          

| | Recent Accounting Pronouncements
In
December 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 148, Accounting for Stock-based CompensationTransition and Disclosure, an
amendment of FASB Statement No. 123, Accounting for Stock-Based Compensation,
to provide alternative methods of transition for a voluntary change to the fair value
based method of accounting for stock-based employee compensation. SFAS No. 148 also
amends the disclosure provisions of SFAS No. 123 and APB Opinion No. 28, Interim
Financial Reporting, to require disclosure in the summary of significant accounting
policies of the effects of an entitys accounting policy with respect to stock-based
employee compensation on reported net income and earnings per share in annual and interim
financial statements. While SFAS No. 148 does not amend SFAS No. 123 to require
companies to account for employee stock options using the fair value method, the
disclosure provisions of SFAS No. 148 are applicable to all companies with
stock-based employee compensation, regardless of whether they account for that
compensation using the fair value method of SFAS No. 123 or the intrinsic value
method of APB Opinion No. 25. The provisions of SFAS No. 148 are effective for
annual financial statements for fiscal years ending after December 15, 2002, and for
financial reports containing condensed financial statements for interim periods beginning
after December 15, 2002. The Company has elected to account for its stock-based
compensation using the intrinsic value method of APB Opinion No. 25 and the adoption of
SFAS No. 148 did not have a material impact on the financial condition or operating
results of the Company.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative
Instruments and Hedging Activities. SFAS No. 149 amends and clarifies accounting for
derivative instruments, including certain derivative instruments embedded in other
contracts and loan commitments that relate to the origination of mortgage loans held for
sale, and for hedging activities under SFAS No. 133. SFAS No. 149 is generally
effective for contracts entered into or modified after June 30, 2003. The adoption of
SFAS No. 149 did not have a material impact on the financial condition or operating
results of the Company.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity. SFAS No. 150 establishes
standards for how an issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an issuer classify a
financial instrument that is within its scope as a liability (or an asset in some
circumstances.) Many of those instruments were previously classified as equity. SFAS
No. 150 is generally effective for financial instruments entered into or modified
after May 31, 2003, and otherwise is effective at the beginning of the first interim
period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have
a material impact on the financial condition or operating results of the Company.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-27-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(1)    Summary of Significant Accounting Policies,
continued

| | Recent Accounting Pronouncements, continued
In
November 2002, the FASB issued FASB Interpretation (FIN) No. 45,
Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others. FIN No. 45 requires a company, at the time it issues
a guarantee, to recognize an initial liability for the fair value of obligations assumed
under the guarantee and elaborates on existing disclosure requirements related to
guarantees and warranties. The initial recognition requirements of FIN No. 45 are
effective for guarantees issued or modified after December 31, 2002. The disclosure
requirements are effective for financial statements of periods ending after December 15,
2002. The adoption of FIN No. 45 did not have a material impact on the Companys
financial position or results of operations.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
January 2003, the FASB issued FIN No. 46, Consolidation of Variable Interest
Entities. FIN No. 46 requires a variable interest entity to be consolidated by a company
if that company is subject to a majority of the risk of loss from the variable interest
entitys activities or entitled to receive a majority of the entitys residual
returns, or both. FIN No. 46 also requires disclosures about variable interest entities
that a company is not required to consolidate, but in which it has a significant variable
interest. FIN No. 46 provides guidance for determining whether an entity qualifies as a
variable interest entity by considering, among other considerations, whether the entity
lacks sufficient equity or its equity holders lack adequate decision-making ability. The
consolidation requirements of FIN No. 46 apply immediately to variable interest entities
created after January 31, 2003. The consolidation requirements apply to existing
entities in the first fiscal year or interim period beginning after June 15, 2003.
Certain of the disclosure requirements apply in all financial statements issued after
January 31, 2003, regardless of when the variable interest entity was established.
The adoption of FIN No. 46 did not have a material impact on the Companys financial
position or results of operations.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
November 2003, the Emerging Issues Task Force (EITF) reached a consensus that
certain quantitative and qualitative disclosures should be required for debt and
marketable equity securities classified as available for sale or held to maturity under
SFAS No. 115 and SFAS No. 124 that are impaired at the balance sheet date but for which an
other-than-temporary impairment has not been recognized. Accordingly the EITF issued EITF
No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain
Investments. This issue addresses the meaning of other-than-temporary impairment and its
application to investments classified as either available for sale or held to maturity
under SFAS No. 115 and provides guidance on quantitative and qualitative disclosures. EITF
No. 03-1 is effective for fiscal years ending after December 15, 2003. Adopting the
disclosure provisions of EITF No. 03-1 did not have a material impact on the
Companys financial position or results of operations.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Other
accounting standards that have been issued or proposed by the FASB or other
standards-setting bodies that do not require adoption until a future date are not expected
to have a material impact on the consolidated financial statements upon adoption.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Risks
and Uncertainties
In
the normal course of its business, the Company encounters two significant types of risk:
economic and regulatory. There are three main components of economic risk: interest rate
risk, credit risk and market risk. The Company is subject to interest rate risk to the
degree that its interest-bearing liabilities mature or reprice at different speeds, or on
different bases, than its interest-earning assets. Credit risk is the risk of default on
the Companys loan portfolio that results from borrowers inability or
unwillingness to make contractually required payments. Market risk reflects changes in the
value of collateral underlying loans receivable, the valuation of real estate held by the
Company, and the valuation of loans held for sale and mortgage-backed securities available
for sale.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Company is subject to the regulations of various government agencies. These regulations
can and do change significantly from period to period. The Company also undergoes periodic
examinations by the regulatory agencies, which may subject it to further changes with
respect to asset valuations, amounts of required loss allowances, and operating
restrictions, resulting from the regulators judgments based on information available
to them at the time of their examination.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Concentrations
of Credit Risk
The
Company, through its subsidiary, makes loans to individuals and businesses in and around
Beaufort County, South Carolina for various personal and commercial purposes. The Company
has a diversified loan portfolio and the borrowers ability to repay their loans is
not dependent upon any specific economic sector.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-28-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued



|(1) | Summary of Significant Accounting Policies, continuedReclassifications
Certain
reclassifications have been made to the 2002 financial statements to conform with
classifications used for 2003. All such reclassifications had no effect on the prior
years net income or retained earnings as previously reported.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Restrictions on Cash
and Due From BanksThe
Bank is required to maintain average reserve balances, computed by applying prescribed
percentages to its various types of deposits, either at the Bank or on deposit with the
Federal Reserve Bank. At December 31, 2003 and 2002, these required reserves were met by
vault cash.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Investment SecuritiesInvestment
securities at December 31, 2003 and 2002 are as follows:
|--- | ----------------------------------------------------------------------------------------

|                             |  | December 31, 2003 |  
|---------------------------- |  | ----------------- | -
|
|
|
|Federal agencies             |  |                   | $
|Mortgage-backed securities   |  |                   |  
|                             |  |                   |  
|                             |  |                   | $
|                             |  |                   |  
|Held to maturity             |  |                  
|State, county and municipals |  |                   | $
|                             |  |                   |  

|                             |  | December 31, 2002 |  
|---------------------------- |  | ----------------- | -
|
|
|
|Federal agencies             |  |                   | $
|Mortgage-backed securities   |  |                   |  
|                             |  |                   |  
|                             |  |                   | $
|                             |  |                   |  
|Held to maturity             |  |                  
|State, county and municipals |  |                   | $
|                             |  |                   |  

| | At
December 31, 2003, unrealized losses in the investment portfolio related to federal
agencies and mortgage-backed securities. The unrealized losses on these securities arose
due to changing interest rates and market conditions and are considered to be temporary
because of acceptable investment grades where the repayment sources of principal and
interest are largely backed by federal agencies. At December 31, 2003, twenty-seven out of
thirty-seven federal agency securities contained unrealized losses, eight out of twelve
mortgage-backed securities contained unrealized losses and eleven out of fourteen state,
county and municipal securities contained unrealized losses.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-29-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

|(3) | Investment Securities, continuedThe
following table shows gross unrealized losses and fair value, aggregated by investment
category, and length of time that individual securities have been in a continuous
unrealized loss position, at December 31, 2003.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Investment
securities available for sale:

|                           | Less than 12 Months | 12 Months or More | Total
|-------------------------- | ------------------- | ----------------- | -----
|
|
|Federal agencies           |                     |                   | $    
|Mortgage-backed securities |                     |                   |      
|                           |                     |                   |      
|Total                      |                     |                   | $    
|                           |                     |                   |      

| | No
individual securities were in a continuous loss position for twelve months or more. The
Company has the ability and intent to hold these securities until such time as the value
recovers or the securities mature. The Company believes, based on industry analyst reports
and credit ratings, that the deterioration in value is attributable to changes in market
interest rates and not in the credit quality of the issuer and therefore, these losses are
not considered other-than-temporary.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Investment
securities held to maturity:

|                             | Less than 12 Months | 12 Months or More | Total
|---------------------------- | ------------------- | ----------------- | -----
|
|
|
|State, county and municipals |                     |                   | $    
|                             |                     |                   |      

| | No
individual securities were in a continuous loss position for twelve months or more. The
Company has the ability and intends to hold these securities to maturity. The Company
believes, based on industry analyst reports and credit ratings, that the deterioration in
value is attributable to changes in market interest rates and not in the credit quality of
the issuer and therefore, these losses are not considered other-than-temporary.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
amortized cost and estimated fair value of investment securities at December 31, 2003, by
contractual maturity, are shown below. Expected maturities will differ from contractual
maturities because borrowers have the right to call or prepay obligations with or without
call or prepayment penalties.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                             | Amortized | Estimated
|---------------------------- | --------- | ---------
|
|Available for sale           |           |          
|Federal agencies             |           |          
|Within 1 year                |           |          
|1 to 5 years                 |           |          
|5 to 10 years                |           |          
|More than 10 years           |           |          
|Mortgage-backed securities   |           |          
|                             |           |          
|                             |           |          
|                             |           |          
|Held to maturity             |           |          
|State, county and municipals |           |          
|5 to 10 years                |           |          
|More than 10 years           |           |          
|                             |           |          
|                             |           |          
|                             |           |          

| | Proceeds
from sales of securities available for sale during 2003 and 2002 totaled approximately
$2,110,000 and $741,000, respectively. Gross gains of $45,232 were realized on those sales
during 2003 and gross losses of $2,964 were realized on sales during 2003. Gross gains of
$33,788 were realized on those sales during 2002 and no losses were realized on sales
during 2002.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Securities
with an amortized cost and fair value pledged to secure public deposits and for other
purposes as required by law as of December 31, 2003 and 2002 were $2,829,000 and
$2,863,000 and $7,807,000 and $8,029,000, respectively.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-30-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

|(4) | Loans and allowance for loan lossesMajor
classifications of loans at December 31, 2003 and 2002 are summarized as follows:
|--- | --------------------------------------------------------------------------------------------------------------------------

|                                       | 2003 | 2002
|-------------------------------------- | ---- | ----
|Commercial, financial and agricultural |      |     
|Real estate - construction             |      |     
|Real estate - mortgage                 |      |     
|Consumer and other                     |      |     
|                                       |      |     
|                                       |      |     
|Less:  Allowance for loan losses:      |      |     
|                                       |      |     
|                                       |      |     
|                                       |      |     

| | The
Bank grants loans and extensions of credit to individuals and a variety of businesses and
corporations located in its general trade area of the city of Beaufort, Beaufort County,
South Carolina and adjoining counties. Although the Bank has a diversified loan portfolio,
a substantial portion of the loan portfolio is collateralized by improved and unimproved
real estate and is dependent upon the real estate market.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

An
analysis of the activity in the allowance for loan losses for the years ended December 31,
2003 and 2002 is presented below:

|                                | 2003 | 2002
|------------------------------- | ---- | ----
|Balance at beginning of year    |      |     
|Provision charged to operations |      |     
|Loans charged off               |      |     
|Recoveries                      |      |     
|                                |      |     
|Balance at end of year          |      |     
|                                |      |     

| | At
December 31, 2003 and 2002, nonaccrual loans were approximately $46,600 and $97,000,
respectively. Foregone interest income on nonaccrual loans in 2003 and 2002 was an
insignificant amount. At December 31, 2003 and 2002, there were no impaired loans. At
December 31, 2003 and 2002, criticized and classified loans amounted to $781,867 and
$468,442, respectively.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(5) | Premises and EquipmentMajor
classifications of premises and equipment are summarized as follows:
|--- | ------------------------------------------------------------------------------------------------

|                              | 2003 | 2002
|----------------------------- | ---- | ----
|Land and improvements         |      |     
|Building and improvements     |      |     
|Furniture and equipment       |      |     
|                              |      |     
|                              |      |     
|Less accumulated depreciation |      |     
|                              |      |     
|                              |      |     
|                              |      |     

Depreciation
expense amounted to $135,332 and $135,808 in 2003 and 2002, respectively.

-31-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(5)    
Premises and Equipment, continued

| | The
Bank has entered into a non-cancelable operating lease related to land and buildings which
expires in 2008. At December 31, 2003, future minimum lease payments under non-cancelable
operating leases with initial or remaining terms of one year or more are as follows:
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 

| | Total
rental expense amounted to $28,050 for the year ended December 31, 2003. Total rental
expense was zero for the year ended December 31, 2002. Monthly expenses range from $2,550
to $3,150.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(6)    
Deposits

Maturities
of time deposits at December 31, 2003 are as follows:

| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 
| | 

Interest
expense on time deposits greater than $100,000 totaled $384,885 and $441,148 in 2003 and
2002, respectively.

(7)     Other Operating
Expenses

| | Components
of other operating expenses, which are greater than 1% of interest income and other
operating income for the years ended December 31, 2003 and 2002 are as follows:
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                  | 2003 | 2002
|----------------- | ---- | ----
|Professional fees |      |     
|Insurance         |      |     
|Data processing   |      |     
|Advertising       |      |     
|Office supplies   |      |     
|Other             |      |     
|                  |      |     
|                  |      |     
|                  |      |     

(8)    Income Taxes

The
components of income tax expense (benefit) for the years ended December 31, 2003 and 2002
are as follows:

|                               | 2003 | 2002
|------------------------------ | ---- | ----
|Currently payable              |      |     
|Deferred tax expense (benefit) |      |     
|                               |      |     
|                               |      |     
|                               |      |     

-32-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(8)    Income Taxes,
continued

| | The
differences between income tax expense and income tax expense computed by applying the
statutory federal income tax rate to earnings before taxes for the years ended December
31, 2003 and 2002 are as follows:
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                           | 2003 | 2002
|------------------------------------------ | ---- | ----
|Tax expense at statutory rate              |      |     
|Add (deduct):                              |      |     
|State income taxes, net of federal benefit |      |     
|Non-deductible expenses                    |      |     
|Other                                      |      |     
|                                           |      |     
|                                           |      |     
|                                           |      |     

The
following summarizes the components of deferred taxes at December 31, 2003 and 2002.

|                                                 | 2003 | 2002
|------------------------------------------------ | ---- | ----
|Deferred income tax assets:                      |      |     
|Allowance for loan losses                        |      |     
|Pre-opening expenses                             |      |     
|Other                                            |      |     
|                                                 |      |     
|Total deferred tax assets                        |      |     
|Less valuation allowance                         |      |     
|                                                 |      |     
|Net deferred income tax assets                   |      |     
|                                                 |      |     
|Deferred income tax liabilities:                 |      |     
|Premises and equipment                           |      |     
|Unrealized gain on securities available for sale |      |     
|Total gross deferred tax liabilities             |      |     
|                                                 |      |     
|Net deferred tax asset (liability)               |      |     
|                                                 |      |     

| | The
net deferred tax asset (liability) is included in other liabilities or other assets in the
consolidated balance sheets. The future tax consequences of the differences between the
financial reporting and tax basis of the Companys assets and liabilities resulted in
a net deferred tax asset for 2003. A valuation allowance has been established for a
portion of the net deferred tax asset, as management has determined that it is not more
likely than not that the entire deferred tax asset will be realized.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(9)     Financial Instruments
with Off-Balance-Sheet Risk

| | The
Bank is a party to financial instruments with off-balance-sheet risk in the normal course
of business to meet the financing needs of its customers. These financial instruments
include commitments to extend credit, standby letters of credit and loans sold with
limited recourse. These instruments involve, to varying degrees, elements of credit risk
in excess of the amount recognized in the consolidated balance sheet. The contractual
amounts of those instruments reflect the extent of involvement the Bank has in particular
classes of financial instruments.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | 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 commitment amounts
do not necessarily represent future cash requirements. The Bank evaluates each
customers creditworthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary by the Bank upon extension of credit, is based on
managements credit evaluation of the counterparty. The Banks loans are
primarily collateralized by residential and other real properties, automobiles, savings
deposits, accounts receivable, inventory and equipment.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-33-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(9)    
          Financial Instruments with Off-Balance-Sheet Risk, continued

| | Standby
letters of credit are written conditional commitments issued by the Bank to guarantee the
performance of a customer to a third party. Those guarantees are primarily issued to
support public and private borrowing arrangements. Most letters of credit extend for less
than one year. The credit risk involved in issuing letters of credit is essentially the
same as that involved in extending loan facilities to customers.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Loans
sold with limited recourse are 1-4 family residential mortgages originated by the Bank and
sold to various other financial institutions. These loans are sold with the agreement that
a loan may be returned to the Bank within 90 days of any one of the loans first four
payments being missed. The Banks exposure to credit loss in the event of
nonperformance by the other party to the loan is represented by the contractual notional
amount of the loan. The Bank uses the same credit policies in making loans held for sale
as it does for on-balance-sheet instruments.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Banks exposure to credit loss in the event of non-performance by the other party to
the financial instrument for commitments to extend credit, standby letters of credit and
loans sold with limited recourse is represented by the contractual amount of those
instruments. The Bank uses the same credit policies in making commitments and conditional
obligations as it does for on-balance-sheet instruments. In most cases, the Bank requires
collateral to support financial instruments with credit risk.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                             | December 31,
|-------------------------------------------- | ------------
|
|Financial instruments whose contract amounts |             
|represent credit risk:                       |             
|Commitments to extend credit                 |             
|Standby letters of credit                    |             
|Loans sold with limited recourse             |             

(10)    Unused Lines of
Credit

| | At
December 31, 2003, the Bank had $5,050,000 of availability on lines of credit to purchase
federal funds from unrelated banks including an increase in one of the lines in January
2004. These lines of credit are available on a one to seven day basis for general
corporate purposes of the Bank. All of the lenders have reserved the right to withdraw
these lines at their option.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | At
December 31, 2003, the Bank had the ability to borrow an additional $10,787,000 or ten
percent of total assets from the FHLB. The borrowings are available by pledging collateral
and purchasing additional stock in the FHLB.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(11)    Legal Contingencies

| | The
Company has, from time to time, various lawsuits and claims arising from the conduct of
its business. Such items are not expected to have any material adverse effect on the
financial position or results of operations of the Company.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(12)    Employee and
Director Benefit Programs

| | In
connection with the Companys initial public stock offering, the directors received
warrants to purchase 212,100 shares of the Companys common stock at a price of $9.52
per share. The warrants vest equally over a three-year period beginning December 2, 1999
and expire on December 2, 2010 or 120 days after the warrant holder ceased to serve as a
member of the board of directors. During 2003, 17,850 of these warrants expired due to the
fact that the holder ceased to serve as a member of the board of directors, leaving
194,250 warrants outstanding as of December 31, 2003. As of December 31, 2003, all of the
warrants are exercisable. Also in connection with the Companys initial public stock
offering, the Company issued 10,500 options at $9.52 per share to a consultant. These
options vested immediately and expire on December 2, 2010.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Company adopted a Stock Incentive Plan in 2000 covering up to 149,354 shares of the
Companys common stock. The Plan is administered by a committee of the Board of
Directors and provides for the granting of options to purchase shares of common stock to
officers, directors, employees or consultants of the Company and Bank. The exercise price
of each option granted under the Plan will not be less than the fair market value of the
shares of common stock subject to the option on the date of grant as determined by the
Board of Directors. Options are exercisable in whole or in part upon such terms as may be
determined by the committee, and are exercisable no later than ten years after the date of
grant. As of December 31, 2003, 21,133 shares were available for grant under this plan.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-34-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(12)    Employee and
Director Benefit Programs, continued

| | A
summary status of the Companys stock option plan as of December 31, 2003 and 2002,
and changes during the years, are presented below:
| | ----------------------------------------------------------------------------------------------------------------------------------------

|                                | 2003 |  | 2002 |        
|------------------------------- | ---- |  | ---- | -------
|
|
|
|
|Outstanding, beginning of year  |      |  |      | 86,536 
|Granted during the year         |      |  |      | 41,685 
|Cancelled during the year       |      |  |      | -      
|                                |      |  |      |        
|Outstanding, end of year        |      |  |      | 128,221
|                                |      |  |      |        
|Options exercisable at year end |      |  |      | 52,971 
|                                |      |  |      |        

The
weighted average remaining contractual life of these stock options was seven years as of
December 31, 2003.

| | The
fair value of each option grant is estimated on the date of grant using the Black-Scholes
option pricing model with the following weighted average assumptions for grants in 2003:
dividend yield of $0 per share, expected volatility from 0.2526% to 0.5098%, risk-free
interest rate of 4.0% and expected life of seven years. The Company granted no options in
2002.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Company sponsors the Lowcountry National Bank Retirement Savings Plan (the
Plan) for the benefit of all eligible employees. The Company contributes to
the Plan annually upon approval by the Board of Directors. Contributions made to the Plan
in 2003 and 2002 amounted to $18,764 and $15,744, respectively.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(13)    
Related Party Transactions

| | In
the normal course of business, officers and directors of the Bank, and certain business
organizations and individuals associated with them, maintain a variety of banking
relationships with the Bank. Transactions with officers and directors are made on terms
comparable to those available to other Bank customers. At December 31, 2003 and 2002,
deposits from directors, executive officers, and their related interests aggregated
approximately $1,348,000 and $1,397,000, respectively. The following summary reflects
related party loan activity for the years ended December 31, 2003 and 2002:
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                  | 2003 | 2002
|----------------- | ---- | ----
|Beginning balance |      |     
|New loans         |      |     
|Repayments        |      |     
|                  |      |     
|Ending balance    |      |     
|                  |      |     

(14)    Regulatory Matters

| | The
Company and the Bank are subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements can initiate
certain mandatory and possibly additional discretionary actions by regulators that, if
undertaken, could have a direct material effect on the financial statements. Under certain
adequacy guidelines and the regulatory framework for prompt corrective action, specific
capital guidelines that involve quantitative measures of the assets, liabilities, and
certain off-balance sheet items as calculated under regulatory accounting practices must
be met. The capital amounts and classification are also subject to qualitative judgments
by the regulators about components, risk weightings, and other factors.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Quantitative
measures established by regulation to ensure capital adequacy require the Company and the
Bank to maintain minimum amounts and ratios (set forth in the table below) of Total and
Tier 1 Capital (as defined in the regulations) to risk-weighted assets (as defined), and
of Tier 1 Capital (as defined) to average assets (as defined). Management believes, as of
December 31, 2003, that the Company and the Bank meet all capital adequacy requirements to
which they are subject.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | As
of December 31, 2003, the most recent notification from the Federal Deposit Insurance
Corporation categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-35-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(14)    
Regulatory Matters, continued

| | the
Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios
as set forth in the table. There are no conditions or events since that notification that
management believes have changed the Banks category.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
actual capital amounts and ratios are also presented in the table below.

|                          |  |  |   |           | To Be Well
|------------------------- |  |  | - | --------- | ----------
|
|
|
|
|As of December 31, 2003:  |  |  |   |           |           
|Total Capital             |  |  | $ | 8,769,000 |           
|(to Risk Weighted Assets) |  | 
|Tier 1 Capital            |  |  |   | 7,903,000 |           
|(to Risk Weighted Assets) |  | 
|Tier 1 Capital            |  |  |   | 7,903,000 |           
|(to Average Assets)       |  | 
|As of December 31, 2002:  |  | 
|Total Capital             |  | 
|(to Risk Weighted Assets) |  |  | $ | 7,632,000 |           
|Tier 1 Capital            |  | 
|(to Risk Weighted Assets) |  |  |   | 7,008,000 |           
|Tier 1 Capital            |  | 
|(to Average Assets)       |  |  |   | 7,008,000 |           

| | Dividends
paid by the Bank are the primary source of funds available to the Company. Banking
regulations limit the amount of dividends that may be paid without prior approval of the
regulatory authorities. These restrictions are based on the level of regulatory classified
assets, the prior years net earnings, and the ratio of equity capital to total
assets. As of December 31, 2003, the Bank is substantially restricted from paying
dividends to the Company.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(15)    Shareholders
Equity

| | Shares
of preferred stock may be issued from time to time in one or more series as established by
resolution of the Board of Directors of the Company, up to a maximum of 10,000,000 shares.
Each resolution shall include the number of shares issued, preferences, special rights and
limitations as determined by the Board.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(16)    Share and Per Share
Restatement

| | In
February 2004, the Company declared a five percent stock dividend. As a result of this
stock dividend, the Company will issue approximately 47,414 shares of common stock to
shareholders of record as of March 12, 2004. All financial statement and footnote
references to the number of common shares, including per share amounts, have been restated
to reflect this stock dividend.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(17)    Fair Value of
Financial Instruments

| | SFAS
No. 107,Disclosures about Fair Value of Financial Instruments requires disclosure of fair
value information, whether or not recognized in the balance sheets, when it is practical
to estimate the fair value. SFAS No. 107 defines a financial instrument as cash, evidence
of an ownership interest in an entity or contractual obligation, which require the
exchange of cash or other financial instruments.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Certain
items are specifically excluded from the disclosure requirements, including the
Companys common stock, premises and equipment and other assets and liabilities.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Fair
value approximates carrying value for the following financial instruments due to the
short-term nature of the instrument: cash and due from banks, federal funds sold,
interest-bearing deposits, federal funds purchased, demand deposit accounts, and
interest-bearing accounts with no fixed maturity date.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

-36-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(17)      Fair Value of
Financial Instruments, continued

| | Securities
are valued using quoted market prices. Fair values for the Companys off-balance
sheet lending commitments are based on fees currently charged to enter into similar
arrangements; taking into account the remaining terms of the agreement and the
counterparties credit standing.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Fair
value for fixed rate loans maturing after one year is based on the discounted present
value of the estimated future cash flows. Discount rates used in these computations
approximate the rates currently offered for similar loans of comparable terms and credit
quality.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Fair
value for Certificate of Deposit accounts are valued by discounting at rates currently
available on similar account types.

| | The
Company has used managements best estimate of fair value based on the above
assumptions. Thus, the fair values presented may not be the amounts which could be
realized in an immediate sale or settlement of the instrument. In addition, any income
taxes or other expenses which would be incurred in an actual sale or settlement are not
taken into consideration in the fair value presented.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
estimated fair values of the Companys financial instruments are as follows:

|                                         |  | December 31, |  
|---------------------------------------- |  | ------------ | -
|
|
|
|Financial assets:                        |  |              |  
|Cash and due from banks                  |  |              | $
|Federal funds sold                       |  |              |  
|Investment securities available for sale |  |              |  
|Investment securities held to maturity   |  |              |  
|Loans held for sale                      |  |              |  
|Loans, net                               |  |              |  
|Other investments                        |  |              |  
|Financial liabilities:                   |  |             
|Deposits                                 |  |              |  
|Federal funds purchased                  |  |              |  

|                               | Notional | Fair | Notional | Fair        
|------------------------------ | -------- | ---- | -------- | ------------
|
|Off-balance-sheet instruments: |          |      |          |             
|Commitments                    |          |      |          | $ 19,372,000
|Stand-by letters of credit     |          |      |          | 117,360     

(18)    
          Coastal Banking Company, Inc. (Parent Company Only) Financial Information

Condensed Balance Sheets

|                                     | December 31,
|------------------------------------ | ------------
|
|Assets                               |             
|Cash                                 |             
|Investment in Bank                   |             
|Premises and equipment               |             
|Other assets                         |             
|                                     |             
|                                     |             
|                                     |             
|Liabilities and Shareholders' Equity |             
|Shareholders' equity                 |             
|                                     |             

-37-

---

COASTAL BANKING
COMPANY, INC.

Notes to Consolidated
Financial Statements, continued

(18)    
          Coastal Banking Company, Inc. (Parent Company Only) Financial Information,
          continued

Condensed Statements of Earnings

|                                             | For the years ended December 31, | 
|-------------------------------------------- | -------------------------------- | 
|
|Other operating income                       |                                  | 
|                                             |                                  | 
|Other operating expenses                     |                                  | 
|                                             |                                  | 
|Loss before equity in undistributed earnings |                                  | 
|of Bank and income taxes                     |                                  | 
|Equity in undistributed earnings of Bank     |                                  | 
|Income tax benefit                           |                                  | 
|                                             |                                  | 
|Net earnings                                 |                                  | 
|                                             |                                  | 

Condensed Statements of Earnings

|                                                       | For the years ended December 31, | 
|------------------------------------------------------ | -------------------------------- | 
|
|Cash flows from operating activities     Net earnings  |                                  | 
|Adjustments to reconcile net earnings to net cash used |                                  | 
|by operating activities:                               |                                  | 
|Equity in undistributed earnings of Bank               |                                  | 
|Change in other assets                                 |                                  | 
|Change in other liabilities                            |                                  | 
|                                                       |                                  | 
|Net cash used by operating activities                  |                                  | 
|                                                       |                                  | 
|Cash and cash equivalents at beginning of year         |                                  | 
|                                                       |                                  | 
|Cash and cash equivalents at end of year               |                                  | 
|                                                       |                                  | 

-38-

---

COASTAL BANKING
COMPANY, INC.

CORPORATE DATA

BOARD OF DIRECTORS

|                          | 
|------------------------- | 
|
|Marjorie Trask Gray, DMD  | 
|Dennis O. Green, CPA      | 
|Mark G. Heles             | 
|                          | 
|James W. Holden, Jr., DVM | 
|                          | 
|Ladson F. Howell          | 
|                          | 
|James C. Key              | 
|Randolph C. Kohn          | 
|                          | 
|                          | 
|Ron Lewis                 | 
|Lila N. Meeks             | 
|                          | 
|Robert B. Pinkerton       | 
|John M. Trask, III        | 
|Matt A. Trumps            | 

SENIOR OFFICERS

Randolph C. Kohn,
President and Chief Executive Officer

Charlie T. Lovering,
Jr., Executive Vice President and Chief Financial Officer

William Gary Horn,
Executive Vice President and Senior Credit Officer

-39-

---

COASTAL BANKING
COMPANY, INC.

CORPORATE DATA

ANNUAL MEETING:

The Annual Meeting of Shareholders of
Coastal Banking Company, Inc. will be held at Oyster Cove, Beaufort, South Carolina on May
20, 2004, at 10:00 a.m.

|                                           | 
|------------------------------------------ | 
|
|CORPORATE OFFICE:                          | 
|36 Sea Island Parkway                      | 
|Beaufort, South Carolina 29907             | 
|Phone (843) 522-1228                       | 
|Fax: (843) 524-4510                        | 
|STOCK TRANSFER DEPARTMENT:                 | 
|First Citizens Bank  & Trust Company of SC | 
|Post Office Box 29                         | 
|Columbia, South Carolina 29202             | 
|                                           | 

STOCK INFORMATION:

The Common Stock of Coastal Banking
Company, Inc. is not listed on any exchange. However, the stock is quoted on the NASDAQ
OTC Bulletin Board under the symbol CBCO.OB. There were approximately 789
shareholders of record on December 31, 2003.

The
following table sets forth the high and low bid prices as quoted on the OTC Bulletin Board
during the periods indicated. The quotations reflect inter-dealer prices, without retail
mark-up, mark-down, or commissions, and may not represent actual transactions. These
prices have been adjusted to reflect the 5% stock dividend our board declared in March
2004.

|               | Years Ended December 31,
|-------------- | ------------------------
|
|
|First quarter  |                         
|Second quarter |                         
|Third quarter  |                         
|Fourth quarter |                         

The Company has never declared or
paid a cash dividend and does not expect to do so in the foreseeable future. The ability
of the Company to pay cash dividends is dependent upon receiving cash dividends from the
Bank. However, South Carolina and federal banking regulations restrict the amount of cash
dividends that can be paid to the Company from the Bank.

Copies of the Companys Annual
Report on Form 10-KSB for the fiscal year ended December 31, 2003, as filed with the
Securities and Exchange Commission, will be furnished at no charge to shareholders as of
the record date upon written request to: Charlie T. Lovering, Jr., Chief Financial
Officer, Coastal Banking Company, Inc., 36 Sea Island Parkway, Beaufort, South Carolina
29907.

This Annual Report serves as the
Annual Financial Disclosure Statement furnished pursuant to Part 350 of the Federal
Deposit Insurance Corporations Rules and Regulations. This Statement has not been
reviewed or confirmed for accuracy or relevance by the Office of the Comptroller of the
Currency.