##### Table of Contents





UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549





FORM 10-Q





QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE
ACT OF 1934

For the Quarterly Period Ended June 30, 2009

Commission File No.: 000-52195





BANK OF THE CAROLINAS
CORPORATION

(Exact name of registrant as specified in its charter)







|                                               |  |                                  
|---------------------------------------------- |  | ---------------------------------
|NORTH CAROLINA                                 |  | 20-4989192                       
|(State or other jurisdiction of incorporation) |  | (IRS Employer Identification No.)
|                                               | 
|135 Boxwood Village Drive                      |  |                                  
|Mocksville, North Carolina                     |  | 27028                            
|(Address of principal executive offices)       |  | (Zip Code)                       

Registrants telephone number, including area code:
(336) 751-5755





Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No   ̈

Indicate by check mark whether
the registrant has submitted electronically and posted to its corporate web site, if any, every interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding
12 months (or for such shorter period that the registrant was required to submit and post such files).Yes   ̈    No   ̈

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See definition of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.



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

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

On August 14, 2009 there were 3,891,841 outstanding shares of the registrants common stock.









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##### Table of Contents

BANK OF THE CAROLINAS CORPORATION

FORM 10-Q

June 30, 2009

INDEX



|                              |  |          |  |                                                                                                            |  |   
|----------------------------- |  | -------- |  | ---------------------------------------------------------------------------------------------------------- |  | --
|Part I. FINANCIAL INFORMATION |  |         
|                              |  |          | 
|                              |  | Item 1.  |  | Consolidated Financial Statements                                                                          |  |   
|                              |  |          | 
|                              |  |          |  | Consolidated Balance Sheets at June 30, 2009 and December 31, 2008                                         |  | 3 
|                              |  |          | 
|                              |  |          |  | Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2009 and 2008            |  | 4 
|                              |  |          | 
|                              |  |          |  | Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2009 and 2008                      |  | 5 
|                              |  |          | 
|                              |  |          |  | Consolidated Statements of Changes in Shareholders Equity for the Six Months Ended June 30, 2009 and 2008 |  | 6 
|                              |  |          | 
|                              |  |          |  | Notes to Consolidated Financial Statements                                                                 |  | 7 
|                              |  |          | 
|                              |  | Item 2.  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                      |  | 10
|                              |  |          | 
|                              |  | Item 3.  |  | Quantitative and Qualitative Disclosure about Market Risk                                                  |  | 15
|                              |  |          | 
|                              |  | Item 4.  |  | Controls and Procedures                                                                                    |  | 16
|                              | 
|Part II. OTHER INFORMATION    |  |         
|                              |  |          | 
|                              |  | Item 1.  |  | Legal Proceedings                                                                                          |  | 17
|                              |  |          | 
|                              |  | Item 1A. |  | Risk Factors                                                                                               |  | 17
|                              |  |          | 
|                              |  | Item 2.  |  | Unregistered Sales of Equity Securities and Use of Proceeds                                                |  | 17
|                              |  |          | 
|                              |  | Item 3.  |  | Defaults Upon Senior Securities                                                                            |  | 17
|                              |  |          | 
|                              |  | Item 4.  |  | Submission of Matters to a Vote of Security Holders                                                        |  | 17
|                              |  |          | 
|                              |  | Item 5.  |  | Other Information                                                                                          |  | 18
|                              |  |          | 
|                              |  | Item 6.  |  | Exhibits                                                                                                   |  | 18
|                              | 
|SIGNATURES                    |  | 19      
|                              | 
|EXHIBIT INDEX                 |  | 20      



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##### Table of Contents

PART 1. FINANCIAL INFORMATION

Item 1. Financial Statements

Bank of the Carolinas Corporation

Consolidated Balance Sheets

(In thousands, except share and per share data)



|                                                                                                                                          |  |             |         |   |                  |   |         |  
|----------------------------------------------------------------------------------------------------------------------------------------- |  | ----------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                                          |  | June 302009 |         |   | December 312008* |  
|                                                                                                                                          |  | (Unaudited) |         |   |                  |  
|Assets                                                                                                                                    |  |             |         |   |                  |   |         |  
|Cash and due from banks                                                                                                                   |  | $           | 8,282   |   |                  | $ | 8,271   |  
|Interest-bearing deposits in banks                                                                                                        |  |             | 174     |   |                  |   | 2,220   |  
|Federal Funds Sold                                                                                                                        |  |             | 30,075  |   |                  |   |        |  
|Securities available for sale                                                                                                             |  |             | 127,607 |   |                  |   | 108,639 |  
|Securities held to maturity                                                                                                               |  |             | 4,370   |   |                  |   | 4,500   |  
|                                                                                                                                          |  |            
|Loans                                                                                                                                     |  |             | 405,364 |   |                  |   | 405,402 |  
|Less, Allowance for loan losses                                                                                                           |  |             | (6,714  | ) |                  |   | (6,308  | )
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total Loans, net                                                                                                                          |  |             | 398,650 |   |                  |   | 399,094 |  
|Premises and equipment                                                                                                                    |  |             | 14,491  |   |                  |   | 15,324  |  
|Accrued interest receivable                                                                                                               |  |             | 2,957   |   |                  |   | 3,039   |  
|Other real estate owned                                                                                                                   |  |             | 7,149   |   |                  |   | 5,622   |  
|Deferred tax assets                                                                                                                       |  |             | 1,638   |   |                  |   | 1,326   |  
|Bank owned life insurance                                                                                                                 |  |             | 9,825   |   |                  |   | 9,645   |  
|Other assets                                                                                                                              |  |             | 5,949   |   |                  |   | 4,327   |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total assets                                                                                                                              |  | $           | 611,167 |   |                  | $ | 562,007 |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|                                                                                                                                          |  |            
|Liabilities and Shareholders Equity                                                                                                      |  |             |         |   |                  |   |         |  
|Deposits:                                                                                                                                 |  |             |         |   |                  |   |         |  
|Non-interest bearing demand deposits                                                                                                      |  | $           | 29,925  |   |                  | $ | 27,507  |  
|Interest bearing demand deposits                                                                                                          |  |             | 29,076  |   |                  |   | 28,173  |  
|Money Market deposits                                                                                                                     |  |             | 266,673 |   |                  |   | 210,378 |  
|Savings deposits                                                                                                                          |  |             | 20,009  |   |                  |   | 21,903  |  
|Time deposits                                                                                                                             |  |             | 139,467 |   |                  |   | 156,579 |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total deposits                                                                                                                            |  |             | 485,150 |   |                  |   | 444,540 |  
|                                                                                                                                          |  |            
|Borrowings                                                                                                                                |  |             | 23,000  |   |                  |   | 25,000  |  
|Subordinated debt                                                                                                                         |  |             | 7,855   |   |                  |   | 7,855   |  
|Repurchase agreements                                                                                                                     |  |             | 46,111  |   |                  |   | 46,557  |  
|Other liabilities                                                                                                                         |  |             | 1,986   |   |                  |   | 1,464   |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total liabilities                                                                                                                         |  |             | 564,102 |   |                  |   | 525,416 |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|                                                                                                                                          |  |            
|Commitments and contingencies (Note 3)                                                                                                    |  |             |         |   |                  |   |         |  
|                                                                                                                                          |  |            
|Shareholders Equity:                                                                                                                     |  |             |         |   |                  |   |         |  
|Preferred Stock, No Par Value: Authorized                                                                                                 |  |             |         |   |                  |   |         |  
|10,000,000 shares: Issued and Outstanding ($1,000 liquidation preference)                                                                 |  |             |         |   |                  |   |        |  
|13,179 Shares at June 30, 2009 and None at December 31, 2008                                                                              |  |             | 13,179  |   |                  |   |         |  
|Common stock, par value $5 per share: 15,000,000 shares authorized; Issued and outstanding 3,981,841 shares in 2009 and 3,891,174 in
2008 |  |             | 19,456  |   |                  |   | 19,456  |  
|Additional paid-in capital                                                                                                                |  |             | 11,602  |   |                  |   | 11,625  |  
|Preferred Stock Discount                                                                                                                  |  |             | (1,366  | ) |                  |   |        |  
|Warrants Outstanding                                                                                                                      |  |             | 1,414   |   |                  |   |        |  
|Retained earnings                                                                                                                         |  |             | 1,834   |   |                  |   | 4,067   |  
|Accumulated other comprehensive income                                                                                                    |  |             | 946     |   |                  |   | 1,443   |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total shareholders equity                                                                                                                |  |             | 47,065  |   |                  |   | 36,591  |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  
|Total liabilities and shareholders equity                                                                                                |  | $           | 611,167 |   |                  | $ | 562,007 |  
|                                                                                                                                          |  |             |         |   |                  |   |         |  



|* | Derived from audited consolidated financial statements.
|- | -------------------------------------------------------

See accompanying notes.



3



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##### Table of Contents

Bank of the Carolinas Corporation

Consolidated Statements of Operations

(Unaudited)

(In thousands, except per share data)



|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|--------------------------------------------------- |  | ------------------------- | ------ | - | ----------------------- | - | ----- | ---- |  | - | ------ | - |  | - | ------ | -
|                                                    |  | Three Months EndedJune 30 |        |   | Six Months EndedJune 30 |  
|                                                    |  | 2009                      |        |   | 2008                    |   |       | 2009 |  |   | 2008   |  
|Interest Income                                     |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Interest and fees on loans                          |  | $                         | 5,977  |   |                         | $ | 6,603 |      |  | $ | 12,029 |   |  | $ | 13,694 |  
|Interest on securities                              |  |                           | 1,435  |   |                         |   | 710   |      |  |   | 2,898  |   |  |   | 1,436  |  
|Interest on federal funds sold                      |  |                           | 13     |   |                         |   | 38    |      |  |   | 19     |   |  |   | 114    |  
|Interest on deposits in other banks                 |  |                           | 8      |   |                         |   | 2     |      |  |   | 24     |   |  |   | 6      |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Total interest income                               |  |                           | 7,433  |   |                         |   | 7,353 |      |  |   | 14,970 |   |  |   | 15,250 |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|                                                    |  |                           |        |  
|Interest Expense                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Interest on deposits                                |  |                           | 3,644  |   |                         |   | 3,808 |      |  |   | 7,186  |   |  |   | 8,194  |  
|Interest on borrowed funds                          |  |                           | 777    |   |                         |   | 388   |      |  |   | 1,588  |   |  |   | 661    |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Total interest expense                              |  |                           | 4,421  |   |                         |   | 4,196 |      |  |   | 8,774  |   |  |   | 8,855  |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|                                                    |  |                           |        |  
|Net Interest Income                                 |  |                           | 3,012  |   |                         |   | 3,157 |      |  |   | 6,196  |   |  |   | 6,395  |  
|Provision for loan losses                           |  |                           | 720    |   |                         |   | 781   |      |  |   | 1,420  |   |  |   | 1,095  |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Net interest income after provision for loan losses |  |                           | 2,292  |   |                         |   | 2,376 |      |  |   | 4,776  |   |  |   | 5,300  |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|                                                    |  |                           |        |  
|Non-interest income                                 |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Customer service fees                               |  |                           | 307    |   |                         |   | 347   |      |  |   | 593    |   |  |   | 639    |  
|Mortgage loan broker fees                           |  |                           | 34     |   |                         |   | 31    |      |  |   | 56     |   |  |   | 67     |  
|Investment services                                 |  |                           | 1      |   |                         |   | 6     |      |  |   | 2      |   |  |   | 15     |  
|Income from bank owned life insurance               |  |                           | 91     |   |                         |   | 92    |      |  |   | 180    |   |  |   | 180    |  
|Other income                                        |  |                           | 177    |   |                         |   | 42    |      |  |   | 117    |   |  |   | 69     |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Total non-interest income                           |  |                           | 610    |   |                         |   | 518   |      |  |   | 948    |   |  |   | 970    |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|                                                    |  |                           |        |  
|Noninterest Expense                                 |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Salaries and benefits                               |  |                           | 1,736  |   |                         |   | 1,802 |      |  |   | 3,454  |   |  |   | 3,696  |  
|Occupancy and equipment                             |  |                           | 532    |   |                         |   | 481   |      |  |   | 1,094  |   |  |   | 980    |  
|Data processing expense                             |  |                           | 211    |   |                         |   | 212   |      |  |   | 451    |   |  |   | 422    |  
|FDIC expense                                        |  |                           | 380    |   |                         |   | 80    |      |  |   | 715    |   |  |   | 160    |  
|OREO valuation allowance                            |  |                           | 1,231  |   |                         |   |      |      |  |   | 1,231  |   |  |   |       |  
|OREO expense                                        |  |                           | 204    |   |                         |   | 20    |      |  |   | 204    |   |  |   | 43     |  
|Other                                               |  |                           | 885    |   |                         |   | 696   |      |  |   | 1,822  |   |  |   | 1,371  |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Total non-interest expense                          |  |                           | 5,179  |   |                         |   | 3,291 |      |  |   | 8,971  |   |  |   | 6,672  |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Loss before income taxes                            |  |                           | (2,277 | ) |                         |   | (397  | )    |  |   | (3,247 | ) |  |   | (402   | )
|Income tax benefit                                  |  |                           | (798   | ) |                         |   | (138  | )    |  |   | (1,113 | ) |  |   | (138   | )
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Net Loss                                            |  | $                         | (1,479 | ) |                         | $ | (259  | )    |  | $ | (2,134 | ) |  | $ | (264   | )
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Dividend and accretion on preferred stock           |  |                           | (99    | ) |                         |   |      |      |  |   | (99    | ) |  |   |       |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Net income (loss) available to common shareholders  |  | $                         | (1,578 | ) |                         | $ | (259  | )    |  | $ | (2,233 | ) |  | $ | (264   | )
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Loss Per Common Share                               |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Basic                                               |  | $                         | (0.41  | ) |                         | $ | (0.07 | )    |  | $ | (0.57  | ) |  | $ | (0.07  | )
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Diluted                                             |  | $                         | (0.41  | ) |                         | $ | (0.07 | )    |  | $ | (0.57  | ) |  | $ | (0.07  | )
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  
|Dividends Declared per Common Share                 |  | $                         |       |   |                         | $ | 0.05  |      |  | $ |       |   |  | $ | 0.10   |  
|                                                    |  |                           |        |   |                         |   |       |      |  |   |        |   |  |   |        |  

See accompanying notes.



4



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##### Table of Contents

Bank of the Carolinas Corporation

Consolidated Statements of Cash Flows

(Unaudited)

(In thousands)



|                                                                                                 |  |                               |         |   |                               |   |         |  
|------------------------------------------------------------------------------------------------ |  | ----------------------------- | ------- | - | ----------------------------- | - | ------- | -
|                                                                                                 |  | Six Months EndedJune 30, 2009 |         |   | Six Months EndedJune 30, 2008 |  
|Cash Flows from Operating Activities:                                                            |  |                               |         |   |                               |   |         |  
|Net loss                                                                                         |  | $                             | (2,134  | ) |                               | $ | (264    | )
|Adjustments to reconcile net income (loss) to netcash provided by operating activities:          |  |                               |         |   |                               |   |         |  
|Provision for loan losses                                                                        |  |                               | 1,420   |   |                               |   | 1,095   |  
|Deferred tax benefit                                                                             |  |                               | (312    | ) |                               |   | (80     | )
|Stock based compensation expense                                                                 |  |                               | 9       |   |                               |   | 11      |  
|Depreciation and amortization                                                                    |  |                               | 527     |   |                               |   | 445     |  
|Increase in valuation allowance on OREO properties                                               |  |                               | 1,206   |   |                               |   |        |  
|(Gain) loss on sale of other real estate owned                                                   |  |                               | 32      |   |                               |   | (23     | )
|(Gain) loss on disposal of fixed assets                                                          |  |                               | (11     | ) |                               |   | 7       |  
|Gain on sale of securities                                                                       |  |                               | (95     | ) |                               |   |        |  
|Income from bank owned life insurance                                                            |  |                               | (179    | ) |                               |   | (180    | )
|Net amortization/accretion of premiums and discounts on investments                              |  |                               | 4       |   |                               |   | 16      |  
|Net (increase) decrease in other assets                                                          |  |                               | 85      |   |                               |   | 58      |  
|Net increase (decrease) in other liabilities                                                     |  |                               | 522     |   |                               |   | (727    | )
|                                                                                                 |  |                               |         |   |                               |   |         |  
|                                                                                                 |  |                              
|Net cash provided by operating activities                                                        |  |                               | 1,074   |   |                               |   | 358     |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|                                                                                                 |  |                              
|Cash Flows from Investing Activities:                                                            |  |                               |         |   |                               |   |         |  
|Increase in federal funds sold                                                                   |  |                               | (30,075 | ) |                               |   |        |  
|Purchases of premises and equipment                                                              |  |                               | (396    | ) |                               |   | (1,075  | )
|Purchases of securities available-for-sale                                                       |  |                               | (54,357 | ) |                               |   | (11,156 | )
|Proceeds from sales, calls, maturities and principal repayments of securities available for sale |  |                               | 34,802  |   |                               |   | 12,991  |  
|Purchase of FHLB stock                                                                           |  |                               | (58     | ) |                               |   | (408    | )
|Acquisition of other real estate owned                                                           |  |                               |        |   |                               |   | (12     | )
|Proceeds from the sale of other real estate owned                                                |  |                               | 156     |   |                               |   | 1,163   |  
|Proceeds from sale of premises and equipment                                                     |  |                               | 11      |   |                               |   | 8       |  
|Net Increase in loans                                                                            |  |                               | (4,484  | ) |                               |   | (14,092 | )
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Net cash used in investing activities                                                            |  |                               | (54,401 | ) |                               |   | (12,581 | )
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Cash Flows from Financing Activities:                                                            |  |                               |         |   |                               |   |         |  
|Net increase (decrease) in deposits                                                              |  |                               | 40,610  |   |                               |   | (7,583  | )
|Net originations (repayments) of other borrowings                                                |  |                               | (2,000  | ) |                               |   | 8,153   |  
|Issuance of subordinated debt                                                                    |  |                               |        |   |                               |   | 5,000   |  
|Issuance of preferred stock                                                                      |  |                               | 13,179  |   |                               |   |        |  
|Increase (decrease) in repurchase agreements                                                     |  |                               | (446    | ) |                               |   | 1,547   |  
|Proceeds from exercise of stock options                                                          |  |                               |        |   |                               |   | 424     |  
|Tax effect of stock options exercised                                                            |  |                               |        |   |                               |   | 10      |  
|Cash dividends paid on preferred stock                                                           |  |                               | (51     | ) |                               |   |        |  
|Cash dividends paid on common stock                                                              |  |                               |        |   |                               |   | (395    | )
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Net cash provided by financing activities                                                        |  |                               | 51,292  |   |                               |   | 7,156   |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Net decrease in cash and cash equivalents                                                        |  |                               | (2,035  | ) |                               |   | (5,067  | )
|Cash and cash equivalents at beginning of period                                                 |  |                               | 10,491  |   |                               |   | 20,948  |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Cash and cash equivalents at end of period                                                       |  | $                             | 8,456   |   |                               | $ | 15,881  |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Supplemental disclosure of cash flow information:                                                |  |                               |         |   |                               |   |         |  
|Cash paid during the period for interest                                                         |  | $                             | 8,855   |   |                               | $ | 9,560   |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Cash paid during the period for income taxes                                                     |  | $                             |        |   |                               | $ |        |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Noncash investing and financing activities:                                                      |  |                               |         |   |                               |   |         |  
|Decrease in fair value of securities available for sale, net of tax                              |  | $                             | (497    | ) |                               | $ | (260    | )
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Dividends declared                                                                               |  |                               | 51      |   |                               |   | 199     |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Foreclosed real estate                                                                           |  |                               | 1,509   |   |                               |   | 1,709   |  
|                                                                                                 |  |                               |         |   |                               |   |         |  
|Transfer from OREO to premises and equipment                                                     |  |                               |        |   |                               |   | 677     |  
|                                                                                                 |  |                               |         |   |                               |   |         |  

See accompanying notes.



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##### Table of Contents

Bank of the Carolinas Corporation

Consolidated Statements of Changes in Shareholders Equity

(Unaudited) (In thousands, except share and per share data)



|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|------------------------------------------------------------- |  | ------------ |  | ------------------- | ------ | -------------- | ----- | ------------------------- | ------ |  | ------------------------ | - |  | ---------------- | ------ | - | ------------------------------------------ | - | ------ | ----------- |  | - | ----- | - |  | - | ------ | -
|                                                              |  | Common Stock |  | Commonstockwarrants |        | preferredstock |       | Discount onpreferredstock |        |  | AdditionalPaid-inCapital |   |  | RetainedEarnings |        |   | AccumulatedOtherComprehensiveIncome
(Loss) |   |        | TotalEquity | 
|                                                              |  | Shares       |  | Amount              |        |                |       |                           |        |  |                         
|Balance, December 31, 2007                                    |  | 3,920,752    |  | $                   | 19,604 |                |       |                           |        |  |                          |   |  | $                | 11,716 |   |                                            | $ | 8,476  |             |  | $ | 444   |   |  | $ | 40,240 |  
|Stock options exercised                                       |  | 66,622       |  |                     | 333    |                |       |                           |        |  |                          |   |  |                  | 91     |   |                                            |   |        |             |  |   |       |   |  |   | 424    |  
|Current Income tax benefit on options exercised               |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  | 10     |   |                                            |   |        |             |  |   |       |   |  |   | 10     |  
|Stock compensation expense                                    |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  | 11     |   |                                            |   |        |             |  |   |       |   |  |   | 11     |  
|Cash dividends declared ($.10 per share)                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   | (397   | )           |  |   |       |   |  |   | (397   | )
|Comprehensive income:                                         |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Net loss                                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   | (264   | )           |  |   |       |   |  |   | (264   | )
|Other comprehensive loss                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   | (260  | ) |  |   | (260   | )
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Total comprehensive loss                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   | (524   | )
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Balance, June 30, 2008                                        |  | 3,987,374    |  | $                   | 19,937 |                | 0     |                           | 0      |  | 0                        |   |  | $                | 11,828 |   |                                            | $ | 7,815  |             |  | $ | 184   |   |  | $ | 39,764 |  
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|                                                              |  |              |  |                     |        |                |       |                           |       
|Balance, December 31, 2008                                    |  | 3,891,174    |  | $                   | 19,456 |                |       |                           |        |  |                          |   |  | $                | 11,625 |   |                                            | $ | 4,067  |             |  | $ | 1,443 |   |  | $ | 36,591 |  
|Vesting of restricted stock grants                            |  | 667          |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Issuance of preferred stock and related common stock warrants |  |              |  |                     |        |                | 1,414 |                           | 13,179 |  | (1,414                   | ) |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   | 13,179 |  
|Preferred stock dividend                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   | (51    | )           |  |   |       |   |  |   | (51    | )
|Preferred stock discount accretion                            |  |              |  |                     |        |                |       |                           |        |  | 48                       |   |  |                  |        |   |                                            |   | (48    | )           |  |   |       |   |  |   |       |  
|Expense of preferred stock issuance                           |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  | (32    | ) |                                            |   |        |             |  |   |       |   |  |   | (32    | )
|Stock compensation expense                                    |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  | 9      |   |                                            |   |        |             |  |   |       |   |  |   | 9      |  
|Comprehensive loss:                                           |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Net loss                                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   | (2,134 | )           |  |   |       |   |  |   | (2,134 | )
|Other comprehensive loss                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   | (497  | ) |  |   | (497   | )
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Total comprehensive loss                                      |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   | (2,631 | )
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  
|Balance, June 30, 2009                                        |  | 3,891,841    |  | $                   | 19,456 |                | 1,414 |                           | 13,179 |  | (1,366                   | ) |  | $                | 11,602 |   |                                            | $ | 1,834  |             |  | $ | 946   |   |  | $ | 47,065 |  
|                                                              |  |              |  |                     |        |                |       |                           |        |  |                          |   |  |                  |        |   |                                            |   |        |             |  |   |       |   |  |   |        |  

See accompanying notes



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Notes to Consolidated Financial Statements

June 30, 2009 and 2008

(Unaudited)

NOTE 1. BASIS OF PRESENTATION

In managements
opinion, the financial information, which is unaudited, reflects all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the financial information as of and for the three month and six month periods ended
June 30, 2009 and 2008, in conformity with accounting principles generally accepted in the United States of America.

The preparation of financial
statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities at the date of the financial statements, as well as the amounts of income and expense during the reporting period. Actual results
could differ from those estimates. Operating results for the three and six month periods ended June 30, 2009 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2009.

The results presented here are for Bank of the Carolinas Corporation (BankCorp), the parent company of Bank of the Carolinas (the Bank). Because
the financial statements are presented on a consolidated basis, BankCorp and the Bank are collectively referred to as the Company unless otherwise noted.

NOTE 2. EARNINGS PER SHARE

Basic earnings per share represents income available to common shareholders divided by
the weighted average number of common shares outstanding during the period. When applicable, the weighted average shares outstanding for the diluted earnings per share computations are adjusted to reflect the assumed conversion of shares available
under stock options using the treasury stock method.

Earnings per share have been computed based on the following:



|                                                                                                  |  |                            |  |          
|------------------------------------------------------------------------------------------------- |  | -------------------------- |  | ---------
|                                                                                                  |  | Six months ended June 30, 
|                                                                                                  |  | 2009                       |  | 2008     
|Weighted average number of common shares oustanding used to calculate basic earnings per share    |  | 3,891,299                  |  | 3,944,205
|Additional potential common shares due to stock options                                           |  |                           |  |         
|                                                                                                  |  |                            |  |          
|Weighted average number of common shares outstanding used to calculate diluted earnings per share |  | 3,891,299                  |  | 3,944,205
|                                                                                                  |  |                            |  |          
|                                                                                                  | 
|                                                                                                  |  | Three months endedJune 30,
|                                                                                                  |  | 2009                       |  | 2008     
|Weighted average number of common shares oustanding used to calculate basic earnings per share    |  | 3,891,423                  |  | 3,967,400
|Additional potential common shares due to stock options                                           |  |                           |  |         
|                                                                                                  |  |                            |  |          
|Weighted average number of common shares outstanding used to calculate diluted earnings per share |  | 3,891,423                  |  | 3,967,400
|                                                                                                  |  |                            |  |          

Options to purchase shares that have been excluded from the diluted earnings per share calculation because they
are antidilutive due to the loss in the second quarter of 2009 were 9,168 shares for the three months ended June 30, 2009 and 9,539 for the six month period ended June 30, 2009.

Similarly, at June 30, 2009, 475,024 warrants to purchase shares of the Companys common stock at $4.16 per share are excluded from the diluted earnings per
share calculation because they are anti-dilutive. These warrants were issued in connection with the United States Treasurys investment in our preferred stock under the TARP  Capital Purchase Program.



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##### Table of Contents

NOTE 3. COMMITMENTS AND CONTINGENCIES

The Company 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, lines of credit and standby letters of credit. These instruments involve elements of credit risk in excess of amounts recognized in the accompanying financial statements.

The Companys risk of loss with the unfunded loans and lines of credit or standby letters of credit is represented by the contractual amount of these instruments. The Company uses the same credit policies in
making commitments under such instruments as it does for on-balance sheet instruments. The amount of collateral obtained, if any, is based on managements credit evaluation of the borrower. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. At June 30, 2009, outstanding financial instruments whose contract amounts represent credit risk were approximately:



|                  |  |                |       
|----------------- |  | -------------- | ------
|                  |  | (in thousands)
|Loan commitments  |  | $              | 51,304
|Letters of credit |  | $              | 2,327 

NOTE 4. COMPREHENSIVE INCOME

Accounting principles generally require that recognized revenue, expenses, gains, and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on
available-for-sale securities, are reported as a separate component in the equity section of the balance sheet. Such items, along with net income, are considered components of comprehensive income. The information that follows reconciles net income
to comprehensive income.



|                                                    |  |                            |        |   |                          |   |      |      |  |        |      |  |   |      |  
|--------------------------------------------------- |  | -------------------------- | ------ | - | ------------------------ | - | ---- | ---- |  | ------ | ---- |  | - | ---- | -
|                                                    |  | Three-months endedJune 30, |        |   | Six-months endedJune 30, |  
|                                                    |  | 2009                       |        |   | 2008                     |   |      | 2009 |  |        | 2008 | 
|(In thousands)                                      |  |                            |        |   |                          |   |      |      |  |        |      |  |   |      |  
|Net loss                                            |  | $                          | (1,479 | ) |                          | $ | (259 | )    |  | (2,134 | )    |  | $ | (264 | )
|Net unrealized loss on AFS securities, net of taxes |  |                            | (690   | ) |                          |   | (638 | )    |  | (497   | )    |  |   | (260 | )
|                                                    |  |                            |        |   |                          |   |      |      |  |        |      |  |   |      |  
|Comprehensive loss                                  |  | $                          | (2,169 | ) |                          | $ | (897 | )    |  | (2,631 | )    |  | $ | (524 | )
|                                                    |  |                            |        |   |                          |   |      |      |  |        |      |  |   |      |  

NOTE 5. RECENT ACCOUNTING PRONOUNCEMENTS

FIN 48 Accounting for Uncertainty in Income Taxes. FIN 48 states that a company should evaluate the certainty that a tax position taken will be sustained upon examination. If the Company should
determine upon evaluation that a position is likely to not be upheld then the institution is responsible for its recognition on the financial statements. The Company adopted this standard on January 1, 2008 with no material impact on the
consolidated financial statements.

FASB Statement No. 141(r) - Business Combinations - This revision to statement No. 141 changes the way that
acquiring entities will account for business combinations. Some of the more significant changes are that the equity securities issued as consideration will be valued at the date that the acquirer takes control of assets and assumes liabilities of
the acquired company (typically would be the date of closing), and that direct costs of the acquisition will be expensed as incurred rather than capitalized. This statement is effective for transactions closing on or after January 1, 2009. The
Company has not entered into any material business combination contracts so this statement has no anticipated impact on the consolidated financial statements.

FASB Statement No. 157 - Fair Value Measurements - This pronouncement creates a framework for consistently measuring fair value of financial assets and liabilities. SFAS 157 also requires increased interim and annual disclosure of the
assumptions used to determine fair values. This pronouncement was adopted on January 1, 2008. FSP 157-3 deferred adoption of SFAS 157 for nonfinancial assets and liabilities until years beginning after November 15, 2008. The Company has
adopted SFAS 157 with no material impact on financial statements.



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##### Table of Contents

FASB Staff Position No. FAS 115-2 and FAS 124-2 Recognition and Presentation of Other-than-Temporary
Impairments was issued in April 2009. This FSP amends the other-than-temporary impairment guidance in U.S. GAAP for debt securities to make it more operational and to enhance the presentation and disclosure of other-than-temporary impairments
in the financial statements. This statement clarifies the factors that should be used to determine whether an other-than-temporary impairment has occurred and requires a more detailed risk-oriented breakdown of major security types. This FSP shall
be effective for interim and annual reporting periods ending June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. The Company does not anticipate any impact on its consolidated financial statements.

NOTE 6. FAIR VALUE

Effective January 1, 2008,
the Company adopted SFAS 157 which requires that certain assets and liabilities be measured at fair value and to record any adjustments to the fair value of those assets. Securities are recorded at fair value on a recurring basis while other assets
are recorded at fair value on a non-recurring basis such as impaired loans and other real estate owned.

The Company uses three levels of measurement to
group those assets measured at fair value. These groupings are made based on the markets the assets are traded in and the reliability of the assumptions used to determine fair value. The groupings include:



| |  |  | Level 1 pricing for an asset or liability is derived from the most likely actively traded markets and considered very reliable. Quoted prices on actively traded
equities, for example, fall into this category.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Level 2 pricing is derived from observable data including market spreads, current and projected rates, prepayment data and credit quality. Our bond price
adjustments fall into this category as well as impaired loans that use appraisals or brokered price opinions to determine fair value.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Level 3 pricing is derived without the use of observable data. In such cases, market-to- market strategies are typically employed. Often, these types of instruments
have no active market, possess unique characteristics and are thinly traded. Our impaired and other real estate loan balances fall into this category. We currently have no assets or liabilities that fall into this category.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The Companys securities are measured on a recurring basis through a model used by our bond agent. All of our bond price
adjustments meet level 2 criteria. Prices are derived from a model which uses actively quoted rates, prepayment models and other underlying credit and collateral data.

Our impaired loans and assets held in other real estate fall into the level 2 criteria. These assets are marked to market value, if lower than the current loan balance, from either their most recent appraisals or a
brokers price opinion, whichever is most recent.



|                                       |  |                   |         |         |   |         |  |         |         |  |   |  
|-------------------------------------- |  | ----------------- | ------- | ------- | - | ------- |  | ------- | ------- |  | - | -
|                                       |  | Total at6/30/2009 |         | Level 1 |   | Level 2 |  | Level 3
|(In thousands)                         |  |                   |         |         |   |         |  |         |         |  |   |  
|Assets valued on a recurring basis     |  |                   |         |         |   |         |  |         |         |  |   |  
|AFS securities                         |  | $                 | 127,607 |         | $ |        |  | $       | 127,607 |  |   | 
|Assets valued on a non-recurring basis |  |                   |         |         |   |         |  |         |         |  |   |  
|Impaired loans                         |  |                   | 10,947  |         |   |        |  |         | 10,947  |  |   | 
|Other real estate owned                |  |                   | 7,149   |         |   |        |  |         | 7,149   |  |   | 
|                                       |  |                   |         |         |   |         |  |         |         |  |   |  
|Total                                  |  | $                 | 145,703 |         | $ |        |  |         | 145,703 |  | $ | 
|                                       |  |                   |         |         |   |         |  |         |         |  |   |  

Note 7. SUBORDINATED DEBT

The Company has issued $5.2 million of junior subordinated debentures to its wholly owned capital trust, (Bank of the Carolinas Trust I), to fully and unconditionally guarantee the preferred securities issued by the
trust. This long term obligation constitutes a full and unconditional guarantee by the Company of the trusts obligations.



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##### Table of Contents

A description of the junior subordinated debenture outstanding is as follows:



|                              |  |                 |  |               |  |              |  |                
|----------------------------- |  | --------------- |  | ------------- |  | ------------ |  | ---------------
|Issuing Entity                |  | Date ofIssuance |  | InterestRate  |  | MaturityDate |  | PrincipalAmount
|Bank of the Carolinas Trust I |  | 3/26/2008       |  | Libor + 3.00% |  | 3/26/2038    |  | $5,155,000     

The Company has the right to redeem the trust preferred securities in whole or in part, on or after
March 26, 2013. If the trust preferred securities are redeemed on or after March 26, 2013, the redemption price will be 100% of the principal amount plus accrued and unpaid interest. In addition, the Company may redeem the trust preferred
securities in whole (but not in part) at any time within 90 days following the occurrence of a tax event, an investment company event or a capital treatment event at a special redemption price (as defined in the indenture).

The Company also has $2.7 million dollars of private placement subordinated debt at a rate of Prime plus 75 basis points. The Company has the right to
repay the debt at any time with no prepayment penalty. The debt was issued on August 13, 2008 and matures on August 13, 2018. The Company makes monthly interest payments on the outstanding debt to the holder of the note.

Note 8. IMPAIRED LOANS

We had impaired loans of $10.9 million at
June 30, 2009. Of those loans $6.3 million had specific reserves of $1.7 million at June 30, 2009. Loans classified as impaired with no specific reserve totaled $4.6 million for the same period. Included in the $6.3 million specific
reserve balance is an impaired loan with a $2.0 million balance and an associated $190,000 specific reserve, as well as an impaired loan with a $1.9 million balance and a $354,000 specific reserve. Both of those loans are backed by a 75% USDA
guarantee. Without these two loans, our impaired loan balance would have been $7.3 million at June 30, 2009. The interest accrued but not recognized on non-accrual loans was $946,000 for the period ended June 30, 2009.

Item 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL

Introduction

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

The
Bank began operations in December 1998 as a state chartered bank and currently has ten offices in the Piedmont region of North Carolina. The Bank competes for loans and deposits throughout the markets it serves. Like other financial institutions,
the Bank, derives most of its revenue from net interest income which is the difference between the income it earns from loans and securities minus the interest expense it incurs on deposits and borrowings.

Recent Developments

In late March 2009, the Company was approved for
participation in the Capital Purchase Program (CPP) by the United States Treasury department. On April 17, 2009, the Company accepted a $13.179 million capital infusion from the United States Treasury.



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##### Table of Contents

The series A preferred stock issued in conjunction with this capital infusion from the government is considered Tier 1 capital. The stock will pay cumulative
dividends of 5% per annum for the first five years and 9% per annum thereafter. The Treasury was also issued warrants to purchase an additional 475,024 shares of the Companys stock at a price of $4.16 per share with a term of ten
years.

The Companys Board of Directors has chosen not to pay a dividend on our outstanding common stock for the second quarter of 2009 nor did they
pay one during the first quarter of 2009. The Bank will continue to evaluate on a quarterly basis whether payment of a dividend on common stock is warranted.

CHANGES IN FINANCIAL CONDITION

Total Assets

At June 30, 2009, total assets were $611.2 million compared to $562.0 million at December 31, 2008, and $511.9 million at June 30, 2008 representing a 8.8
percent increase over the year end amount.

Investment Securities

Investment securities totaled $132.0 million at June 30, 2009, compared to $113.1 million at December 31, 2008 and $58.4 million at June 30, 2008. Total investments increased $18.9 million or 16.7
percent from December 31, 2008.

The investment portfolio includes U.S. Government Agency bonds, mortgage-backed securities, corporate bonds,
municipal bonds, and treasuries which were classified as either held to maturity or available-for-sale.

Loans and Allowance for Loan Losses

At June 30, 2009, the loan portfolio totaled $405.4 million and represented 66.3 percent of total assets compared to $405.4 million or 72.1
percent of total assets at December 31, 2008 and $406.7 million or 79.4 percent of total assets at June 30, 2008. Total loans decreased $38,000 from December 31, 2008 and $1.3 million from June 30, 2008. Real estate loans
constituted approximately 70.4 percent of the loan portfolio, and commercial loans comprised approximately 20.4 percent of the total loan portfolio at June 30, 2009.

The allowance for loan losses is created by direct charges to income. Losses on loans are charged against the allowance in the period in which such loans, in managements opinion, become uncollectible. Recoveries
during the period are credited to this allowance. The factors that influence managements judgment in determining the amount charged to operating expense include past loan experience, composition of the loan portfolio, current economic
conditions and probable losses.

The appropriateness of the allowance for loan losses is measured on a quarterly basis using an allocation model that
assigns reserves to various components of the loan portfolio in order to provide for probable inherent losses. It must be emphasized, however, that the determination of the reserve using the Companys procedures and methods rests upon various
judgments and assumptions about current economic conditions and other factors affecting loans. No assurance can be given that the Company will not in any particular period sustain loan losses that are sizable in relation to their amounts reserved or
that subsequent evaluations of the loan portfolio, in light of conditions and factors then prevailing, will not require significant changes in the allowance for loan losses or future charges to earnings. In addition, various regulatory agencies, as
an integral part of their routine examination process, periodically review the Companys allowance. Those agencies may require the Company to recognize adjustments to the allowance based on their judgments about information available to them at
the time of their examinations. The Company believes the allowance is appropriate based on managements current analysis.



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##### Table of Contents

The following table describes the activity in our allowance for loan losses for the six-month periods ended June 30,
2009 and 2008.



|                                                                   |      |                          |        |      |  |   |       |  
|------------------------------------------------------------------ | ---- | ------------------------ | ------ | ---- |  | - | ----- | -
|                                                                   |      | Six-months endedJune 30, |       
|                                                                   | 2009 |                          |        | 2008 | 
|                                                                   |      | (dollars in thousands)   |       
|Balance at beginning of period                                     |      | $                        | 6,308  |      |  | $ | 4,245 |  
|Provision for loan losses                                          |      |                          | 1,420  |      |  |   | 1,095 |  
|Charge-offs                                                        |      |                          | (1,086 | )    |  |   | (876  | )
|Recoveries of loans previously charged-off                         |      |                          | 72     |      |  |   | 74    |  
|                                                                   |      |                          |        |      |  |   |       |  
|Balance at end of period                                           |      | $                        | 6,714  |      |  | $ | 4,538 |  
|                                                                   |      |                          |        |      |  |   |       |  
|                                                                   |      |                         
|Ratio of allowance for loan losses to total loans at end of period |      |                          | 1.66   | %    |  |   | 1.12  | %

Certain credit risks are inherent in making loans, particularly commercial and consumer loans. Management
prudently assesses these risks and attempts to manage them effectively. The Company also attempts to reduce repayment risks by adhering to internal credit underwriting policies and procedures. These policies and procedures include officer and
customer limits, periodic loan documentation review and follow up on exceptions to credit policies. A loan is placed in nonaccrual status when, in managements judgment, the collection of interest appears doubtful.

The following table summarizes information regarding our nonaccrual loans, other real estate owned, and certain other repossessed assets and loans, as of June 30,
2009 and December 31, 2008. On those dates, we had no loans categorized as troubled debt restructuring within the meaning of SFAS 15.



|                                                                 |  |                        |        |   |                  |   |        |  
|---------------------------------------------------------------- |  | ---------------------- | ------ | - | ---------------- | - | ------ | -
|                                                                 |  | June 30,2009           |        |   | December 31,2008 |  
|                                                                 |  | (dollars in thousands) |       
|Loans accounted for on a nonaccrual basis:                       |  |                        |        |   |                  |   |        |  
|Real estate loans:                                               |  |                        |        |   |                  |   |        |  
|Mortgage                                                         |  | $                      | 1,581  |   |                  | $ | 195    |  
|Commercial                                                       |  |                        | 2,809  |   |                  |   | 5,466  |  
|Construction                                                     |  |                        | 2,766  |   |                  |   | 285    |  
|Home Equity                                                      |  |                        |       |   |                  |   |       |  
|Commercial business and consumers                                |  |                        | 3,891  |   |                  |   | 771    |  
|                                                                 |  |                        |        |   |                  |   |        |  
|Total nonaccrual loans                                           |  |                        | 11,047 |   |                  |   | 6,717  |  
|                                                                 |  |                        |        |   |                  |   |        |  
|Accruing loans, which are contractually past due 90 days or more |  |                        | 1,813  |   |                  |   |       |  
|                                                                 |  |                        |        |   |                  |   |        |  
|Total non-performing loans                                       |  |                        | 12,860 |   |                  |   | 6,717  |  
|                                                                 |  |                        |        |   |                  |   |        |  
|Other real estate owned, net                                     |  |                        | 7,149  |   |                  |   | 5,622  |  
|                                                                 |  |                        |        |   |                  |   |        |  
|Total non-performing assets                                      |  | $                      | 20,009 |   |                  | $ | 12,339 |  
|                                                                 |  |                        |        |   |                  |   |        |  
|                                                                 |  |                       
|Non-performing loans as a percentage of net loans                |  |                        | 3.23   | % |                  |   | 1.68   | %
|Total non-performing assets as a percentage of total assets      |  |                        | 3.27   | % |                  |   | 2.20   | %

Of the $11.0 million in non-accrual loans on our books, $3.4 million of those were made to one customer. The
remaining balance of these loans are backed by a 75% USDA guarantee which will limit the amount of potential additional loss the Bank may incur in regards to this loan.

While our nonaccrual loans continue to increase, management continues to closely monitor these loans and work to resolve their delinquency. In this difficult economic environment management is committed to working
with our customers to the extent possible while being aggressive in identifying troubled assets in our portfolio.



12



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##### Table of Contents

Deposits

The
Companys deposit services include business and individual checking accounts, savings accounts, NOW accounts, certificates of deposit and money market checking accounts. At June 30, 2009, total deposits were $485.1 million compared to
$444.5 million at December 31, 2008 and $414.3 million at June 30, 2008. This change has been primarily the function of tremendous growth in our money market accounts during the last year, which has been partially offset by a significant
reduction in our brokered deposits. The significant growth in money market accounts began in July 2008 when we offered a special money market rate that was good through June 30, 2009. We have used this opportunity to re-structure our balance
sheet by creating more transaction accounts and deepening our relationship with existing customers while seeking new ones.

Our deposits are generated
primarily within our banking market. However, the Company had $22.2 million in brokered deposits at June 30, 2009 compared to $32.3 million at December 31, 2008 and $67.1 million at June 30, 2008. Institutional certificates are
solicited on the Internet through Express Data Corporations Quick-Rate CD Clearinghouse and represent approximately 0.08 percent of the Companys total deposits or $397,000 at June 30, 2009.

Liquidity

Liquidity management is the process of managing assets and
liabilities as well as their maturities to insure adequate funding for loan and deposit activity as well as continued growth of the Company. Sources of funding come from both the asset and liability side of the balance sheet. Asset side sources
include cash and cash equivalents, federal funds sold and unpledged available for sale securities. These totaled $95.9 million at June 30, 2009 and $91.5 million at December 31, 2008. Liquidity sources from liabilities include deposits and
lines of credit with other institutions. These sources are largely affected by our ability to attract and maintain deposits. Our deposits, together with equity capital, funded 87.1 percent of total assets at June 30, 2009. The Company has
borrowing lines available from various correspondent banks and the Federal Home Loan Bank of Atlanta (FHLB) for short-term or long-term funding. At June 30, 2009, the Company had total borrowings of $23.0 million from the FHLB, with maturity
dates on these borrowings extending through 2013. The Company also has a $5 million letter of credit with the FHLB that is uses to pledge toward public fund balances. A blanket lien on loans secured by residential 1-4 family dwellings, qualifying
non-residential loans and home equity lines of credit is in place with the FHLB to secure these advances. The Company closely monitors and evaluates its overall liquidity position. We believe our liquidity position at June 30, 2009 is adequate
to meet our operating needs.

Interest-Rate Sensitivity

Fluctuating interest rates, increased competition and changes in the regulatory environment continue to significantly affect the importance of interest-rate sensitivity management. Rate sensitivity arises when interest rates on assets
change in a different period of time or in a different proportion to interest rates on liabilities. The primary objective of interest-rate sensitivity management is to prudently structure the balance sheet so that movements of interest rates on
assets and liabilities are highly correlated and produce a reasonable net interest margin even in periods of volatile interest rates. The Company uses an asset/liability simulation model to project potential changes to the Companys net
interest margin, net income, and economic value of equity based on simulated changes to market interest rates, namely the prime rate. The Company is liability sensitive over the next twelve months, which means that interest-bearing liabilities could
re-price more quickly than interest earning assets. Theoretically, the Companys net interest margin will decline if market interest rates rise or improve if market interest rates fall.

Capital Adequacy

We are required to comply with the capital adequacy
standards established by the Federal Deposit Insurance Corporation (FDIC). The FDIC has issued risk-based capital and leverage capital guidelines for measuring the adequacy of a banks capital, and all applicable capital standards must be
satisfied for us to be considered in compliance with the FDICs requirements. On June 30, 2009, the Banks Total Capital Ratio and Tier 1 Capital Ratio were 11.63% and 10.38%, respectively, which were well above the minimum levels
required by the FDICs guidelines. On June 30, 2009 our Leverage Capital Ratio was 7.86%, which was also well above the minimum level required by the FDICs guidelines. However, banking regulators generally have the ability to require
more stringent standards than those otherwise set forth in regulations, and, as previously disclosed in our 2008 Annual Report on Form 10-K, our and the Banks Board of Directors have entered into informal agreements with our respective banking
regulators which, among other things,



13



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##### Table of Contents

require that the Bank maintain capital levels in excess of normal statutory minimums, including a Leverage Capital Ratio
of not less than 7.5% and other ratios at least at well capitalized levels and that we and the Bank seek the approval of our respective regulators prior to the payment of any cash dividend. The Banks Leverage Capital ratio was
above the required percentage at June 30, 2009. The BankCorp ratios at June 30, 2009 were also well above minimum requirements to be considered well capitalized.

In late March 2009, the Company was approved for participation in the Capital Purchase Program (CPP) by the United States Treasury department. On April 17, 2009, the Company accepted a $13.179 million capital
infusion from the United States Treasury. The series A preferred stock issued in conjunction with this capital infusion from the government is considered Tier 1 capital. The stock will pay cumulative dividends of 5% per annum for the first five
years and 9% per annum thereafter. The Treasury was also issued warrants to purchase an additional 475,024 shares of the Companys stock at a price of $4.16 per share with a term of ten years.

RESULTS OF OPERATIONS

Three-Month Period
Ended June 30, 2009 and June 30, 2008

The Company had a net loss available to common shareholders of $1.6 million or $(0.41) per diluted
share available to common shareholders for the three-month period ended June 30, 2009 while reporting a net loss available to common shareholders of $259,000 or $(0.07) per diluted share for the three-month period ended June 30, 2008.

Net interest income, or the difference between income generated by earning assets (primarily loans, investment securities, and interest-bearing balances)
and the expense incurred on interest bearing liabilities (primarily deposits and borrowed funds used to fund earning assets), is the Companys primary source of earnings. The Companys net interest income for the three-month period ended
June 30, 2009 and 2008 was $3.0 million and $3.2 million, respectively. Our cost of funds has actually declined during the twelve month period despite significant growth in our money market account balances. However, the lack of loan growth as
well as the increase in non-accrual loans have been the primary factors contributing to the decline in our net interest margin. We have de-coupled our bank prime rate from the Wall Street Journal prime rate in an effort to minimize the effect of the
current low rate environment on our net interest margin.

Interest expense for the three-month period ending June 30, 2009 was $4.4 million compared
to $4.2 million during the same period in 2008. This was an increase of $225,000 or 5.4%. This is a small increase especially in light of the significant increases in deposit balances during the time period.

Non-interest income was $610,000 for the three-months compared to $518,000 for the three-month period ended June 30, 2008. The non-interest income total includes
service charges on deposit accounts, bank owned life insurance, and mortgage broker fees. The $92,000 year over year increase was primarily the result of a $95,000 gain on the sale of investment securities during the quarter.

Non-interest expense was $5.2 million for the three-months ended June 30, 2009, compared to $3.3 million for the same period in 2008 an increase of $1.9 million or
57.4 percent. Salary expense decreased $66,000 over the same quarter in the previous year which was primarily a result of the Banks efforts to reduce expense. Occupancy expense increased $51,000 while other non-interest expense increased $1.9
million. This increase was primarily attributable to a $1.2 million write-down on several OREO properties. The majority of the remaining increase came from increased FDIC deposit insurance premiums. The effective tax benefit rate for the three-month
period ended June 31, 2009 was 35.1% compared to 34.8% for the three-months ended June 30, 2008.

Six-Month Period Ended June 30, 2009
and June 30, 2008

The Company had net loss available to common shareholders of $2.2 million or $(0.57) per diluted share for the six-month period
ended June 30, 2009 and net loss available to common shareholders of $264,000 or $(0.07) per diluted share for the six-month period ended June 30, 2008.

Net interest income, or the difference between income generated by earning assets (primarily loans, investment securities, and interest-bearing balances) and the expense incurred on interest bearing liabilities (primarily deposits and
borrowed funds used to fund earning assets), is the Companys primary source of earnings. The Companys net interest income for the six-month period ended June 30, 2009 and 2008 was $6.2 million and $6.4 million, respectively.

Interest expense for the six-month period ending June 30, 2009 was $8.8 million compared to $8.9 million during the same period in 2008. The $81,000
decrease left the Company relatively flat year over year.



14



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##### Table of Contents

Principal factors leading to the decrease in net income for the six-month period ended in 2009, relative to 2008, were
declines in the Companys net interest income, an increase in the provision for loan losses and increased non-interest expense. For the six-month period ended in 2009, the net interest margin declined to 2.31% from 2.75% in 2008. During this
period, while we reduced our cost of funds by 69 basis points, our yield on earning assets fell by 101 basis points which led to the decrease in our net interest margin. The decrease in our yield on earning assets was a combination of the
continuation of pressure on loan rates, borrowers reluctance to borrow and increased credit underwriting standards. The provision for loan losses increased $325,000 from the previous year primarily due to charge offs and the identification of
loans that required specific reserves by Banks management.

Non-interest income was $948,000 for the six-months compared to $970,000 for the
six-month period ended June 30, 2008. The non-interest income total includes service charges on deposit accounts, bank owned life insurance, and mortgage broker fees. The $22,000 year over year decrease was largely a result of a decrease in NSF
and commercial service charge fees. These decreases were partially offset by a $95,000 gain on securities sold during 2009.

Non-interest expense was $9.0
million for the six-months ended June 30, 2009, compared to $6.7 million for the same period in 2008, an increase of $2.3 million or 34.4 percent. Salaries and benefits decreased $242,000, occupancy expense increased $114,000 and other
non-interest expense increased $2.4 million for the current year period. The increase in non-interest expense was primarily due to the $1.2 million write-down on OREO properties previously mentioned. Also contributing to the increase are the
substantially elevated FDIC insurance premiums due to the one-time special assessment being levied on all banks during 2009.

The Bank accrued a tax
benefit of 34.3% for the six months ending June 30, 2009 and 2008. The tax benefit rates were a result of the Companys year to date losses.

DISCLOSURES ABOUT FORWARD LOOKING STATEMENTS

This Report and its exhibits contain statements relating to our
financial condition, results of operations, plans, strategies, trends, projections of results of specific activities or investments, expectations or beliefs about future events or results, and other statements that are not descriptions of historical
facts. Those statements may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Forward-looking statements may be identified by terms such as may, will, should, could, expects, plans, intends, anticipates, believes,
estimates, predicts, forecasts, potential or continue, or similar terms or the negative of these terms, or other statements concerning opinions or judgments of the Companys management
about future events. Forward-looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, factors
discussed in reports the Company files with the Securities and Exchange Commission from time to time. Copies of those reports are available directly through the Commissions website at www.sec.gov. Other factors that could influence the
accuracy of such forward-looking statements include, but are not limited to, (a) changes in competitive pressures among depository and other financial institutions or in the Companys ability to compete successfully against the larger
financial institutions in its banking markets; (b) the financial success or changing strategies of the Companys customers; (c) actions of government regulators, or changes in laws, regulations or accounting standards, that adversely
affect the Companys business; (d) changes in the interest rate environment and the level of market interest rates that reduce the Companys net interest margins and/or the volumes and values of loans it makes and securities it holds;
(e) changes in general economic or business conditions and real estate values in the Companys banking markets (particularly changes that affect the Companys loan portfolio, the abilities of its borrowers to repay their loans, and
the values of loan collateral); (f) the impact on financial institutions in general of recent adverse conditions in the banking industry and the credit and securities markets; and (g) other developments or changes in our business that the
Company does not expect. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, levels of activity, performance or achievements. All forward-looking
statements attributable to the Company are expressly qualified in their entirety by the cautionary statements in this paragraph. The Company has no obligation, and does not intend, to update these forward-looking statements.

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not applicable



15



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##### Table of Contents

Item 4. CONTROLS AND PROCEDURES

The Companys management, under the supervision and with the participation of our Chief Executive Officer and Principal Financial Officer, has evaluated the
effectiveness of the design and operation of the Companys disclosure controls and procedures as of June 30, 2009, in accordance with Rule 13a-15 of the Securities Exchange Act of 1934 (the Exchange Act). Based on their
evaluation, the Chief Executive Officer and Principal Financial Officer concluded that, as of the end of the period covered by this report, the Companys disclosure controls and procedures were effective to provide reasonable assurance that we
are able to record, process, summarize and report in a timely manner the information required to be disclosed in reports we file under the Exchange Act.

Except as described below, in connection with the above evaluation no change in the Companys internal control over financial reporting was identified that occurred during the second quarter of 2009 that has materially affected, or is
reasonably likely to materially affect, the Companys internal control over financial reporting.

As described in the Companys 2008 Annual
Report on Form 10-K and Quarterly Report on Form 10-Q for the quarter ended March 31, 2009, in connection with managements evaluation of the Companys disclosure controls and procedures as of December 31, 2008 and March 31,
2009 the Chief Executive Officer and Principal Financial Officer determined that:



| |  |  | there was a material weakness in the Companys internal control over financial reporting because (1) its processes for and controls over the
identification of impaired loans, and assessment of charge-off data, for consideration in the Companys allowance for loan losses model and its estimation of the allowance, and (2) its procedures for estimating values of, and the frequency
with which it updates appraisals on, other real estate, were not effective to ensure the accuracy of the Companys financial statements and in preventing or detecting a material misstatement; and
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | there was a significant deficiency in the Companys internal control over financial reporting because the lack of market value information for certain
held-to-maturity securities in reports provided by the Companys bond accounting service impaired the Companys ability to accurately determine unrealized loss, and potential other than temporary impairment, on those securities.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

During the second quarter of 2009, the Companys management has addressed the above conditions and has implemented remedial
measures, including designing and implementing additional control and review procedures to ensure that the Company can more accurately estimate its allowance for loan losses and the value of other real estate and that reports from the Companys
bond accounting service are complete as they relate to market values of held to maturity securities.



16



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##### Table of Contents

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

None

Item 1A. Risk Factors

None

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

None

Item 3. Defaults Upon Senior Securities.

None

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

The Companys annual meeting of shareholders was held on May 27, 2009. At the meeting, the shareholders:



| |  |  | elected 14 directors for terms of one year each; and
| | - |  | ----------------------------------------------------



| |  |  | approved a non-binding say-on-pay resolution regarding our executive compensation policies and procedures.
| | - |  | ------------------------------------------------------------------------------------------------------------



|                                                        |  |                   |  |                       |  |                 |  |                 
|------------------------------------------------------- |  | ----------------- |  | --------------------- |  | --------------- |  | ----------------
|Name of Nominee or Description of
Other Matter Voted On |  | SharesVoted For |  | SharesWithheld      |  | SharesAbstained |  | BrokerNonVotes
|Election of Directors                                   |  |                   |  |                       |  |                 |  |                 
|Jerry W. Anderson                                       |  | 2,894,504         |  | 189,695               |  | N/A             |  | N/A             
|Alan M. Bailey                                          |  | 2,880,706         |  | 203,493               |  | N/A             |  | N/A             
|William A. Burnette                                     |  | 3,015,254         |  | 68,945                |  | N/A             |  | N/A             
|John A. Drye                                            |  | 2,889,702         |  | 194,498               |  | N/A             |  | N/A             
|Thomas G. Fleming                                       |  | 3,019,454         |  | 64,745                |  | N/A             |  | N/A             
|John W. Googe                                           |  | 2,885,002         |  | 199,198               |  | N/A             |  | N/A             
|Henry H. Land                                           |  | 2,875,904         |  | 208,296               |  | N/A             |  | N/A             
|Michel D. Larrowe                                       |  | 2,889,602         |  | 194,598               |  | N/A             |  | N/A             
|Steven G. Laymon                                        |  | 2,878,978         |  | 205,221               |  | N/A             |  | N/A             
|Robert E. Marziano                                      |  | 3,018,709         |  | 65,490                |  | N/A             |  | N/A             
|Grady L. McClamrock, Jr                                 |  | 2,890,617         |  | 193,582               |  | N/A             |  | N/A             
|Lynne S. Safrit                                         |  | 2,859,714         |  | 224,486               |  | N/A             |  | N/A             
|Francis W. Slate                                        |  | 2,871,535         |  | 212,664               |  | N/A             |  | N/A             
|Stephen R. Talbert                                      |  | 2,874,138         |  | 210,062               |  | N/A             |  | N/A             
|                                                        |  |                   |  |                      
|                                                        |  | SharesVoted For |  | Shares VotedAgainst |  | SharesAbstained |  | BrokerNonVotes
|Proposal to Vote on a Non-Binding Advisory Resolution   |  | 2,718,853         |  | 153,394               |  | 211,952         |  | 0               



17



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##### Table of Contents

Item 5. Other Information

None

Item 6. Exhibits

The following exhibits are being furnished or filed with this report.

3.01    The Companys Articles of Incorporation, as amended (incorporated by reference from Exhibits to Current Report on Form 8-K dated April 13, 2009)

4.01    Warrant to purchase shares of the Companys common stock dated April 17, 2009 (incorporated by reference from
Exhibits to Registration Statement on Form S-3, File No. 333-159934)

4.02    Letter Agreement (including
Securities Purchase Agreement Standard Terms attached as Exhibit A thereto) between the Company and the United States Department of the Treasury (incorporated by reference from Exhibits to Registration Statement on Form S-3, File
No. 333-159934)

4.03    ARRA Letter Agreement dated April 17, 2009 between the Company and the United States
Department of the Treasury (incorporated by reference from Exhibits to Registration Statement on Form S-3, File No. 333-159934)

31.01    Certification of Chief Executive Officer pursuant to Rule 13a-14(a) (furnished herewith)

31.02    Certification of Principal Financial Officer pursuant to Rule 13a-14(a) (furnished herewith)

32.01    Certification of our Chief Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350 (furnished herewith)



18



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##### Table of Contents

SIGNATURES

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



|                      |  |                                   |  |                                               
|--------------------- |  | --------------------------------- |  | ----------------------------------------------
|                      |  | BANK OF THE CAROLINAS CORPORATION
|                      |  |                                  
|Date: August 14, 2009 |  | By:                               |  | /s/    Robert E. Marziano                     
|                      |  |                                   |  | Robert E. Marziano                            
|                      |  |                                   |  | President and Chief Executive Officer         
|Date: August 14, 2009 |  |                                   |  |                                               
|                      |  | By:                               |  | /s/    Michelle L. Clodfelter                 
|                      |  |                                   |  | Michelle L. Clodfelter                        
|                      |  |                                   |  | Vice President and Principal Financial Officer



19



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EXHIBIT INDEX



|              |  |                                                                                                                                                                                                                                                                                   |  | 
|------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | 
|ExhibitNumber |  | Description                                                                                                                                                                                                                                                                      
|3.01          |  | The Companys Articles of Incorporation, as amended (incorporated by reference from Exhibits to Current Report on Form 8-K dated April 13, 2009)                                                                                                                                 
|4.01          |  | Warrant to purchase shares of the Companys common stock dated April 17, 2009 (incorporated by reference from Exhibits to Registration Statement on Form S-3, File No.
333-159934)                                                                                               
|4.02          |  | Letter Agreement (including Securities Purchase Agreement Standard Terms attached as Exhibit A thereto) between the Company and the United States Department of the Treasury
(incorporated by reference from Exhibits to Registration Statement on Form S-3, File No. 333-159934)
|4.03          |  | ARRA Letter Agreement dated April 17, 2009 between the Company and the United States Department of the Treasury (incorporated by reference from Exhibits to Registration Statement on
Form S-3, File No. 333-159934)                                                             
|31.01         |  | Certification of our Chief Executive Officer pursuant to Rule 13a-14(a) (furnished herewith)                                                                                                                                                                                     
|31.02         |  | Certification of our Principal Financial Officer pursuant to Rule 13a-14(a)(furnished herewith)                                                                                                                                                                                  
|32.01         |  | Certifications of our Chief Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350 (furnished
herewith)                                                                                                                                            



20