GENERAL

Provident Bankshares Corporation (the "Corporation"), a Maryland corporation, is the holding company for Provident Bank ("Provident" or the "Bank"); a Maryland chartered stock commercial bank. At September 30, 2008, the Bank is the largest independent commercial bank, in asset size, headquartered in Maryland, with $6.4 billion in assets. Provident is a regional bank serving Maryland, Virginia and Southern York County, PA, with emphasis on the key urban centers within these states - the Baltimore, Washington, D.C. and Richmond metropolitan areas.

Provident's principal business is to acquire deposits from individuals and businesses and to use these deposits to fund loans to individuals and businesses. Provident focuses on providing its products and services to three segments of customers - individuals, small businesses and middle market businesses. The Corporation offers consumer and commercial lending products and services through the Consumer Banking group and the Commercial Banking group. Provident also offers related financial services through wholly-owned subsidiaries. Securities brokerage, investment management and related insurance services are available through Provident Investment Company and leases through Court Square Leasing.

Provident's mission is to exceed customer expectations by delivering superior service, products and banking convenience. Every employee's commitment to serve the Bank's customers in this fashion will assist in establishing Provident as the primary bank of choice of individuals, families, small businesses and middle market businesses throughout its chosen markets. To achieve this mission and to improve financial fundamentals, the strategic priorities of the organization are to:

Maximize Provident's position as the right size bank in the marketplace. Provident's position as the largest bank headquartered in Maryland provides a unique opportunity as the "right size" bank in its market areas, or footprint. The Bank provides the service of a community bank combined with the convenience and wide array of products and services that a major regional bank offers. In addition, the 63 in-store banking offices throughout its footprint reinforce its right size strategy through convenient locations, hours and a full line of products and services. Provident currently has 142 banking offices concentrated in the Baltimore-Washington, D.C. corridor and beyond to Richmond, Virginia. Of the 142 banking offices, 49% are located in the Greater Baltimore region and 51% are located in the Greater Washington, D.C. and Central Virginia regions, reflecting the successful development of the Bank into a highly competitive regional commercial bank. Provident also offers its customers 24-hour banking services through ATMs, telephone banking and the Internet. The Bank's network of 195 ATMs enhances the banking office network by providing customers increased opportunities to access their funds. In addition, the Bank is a member of the MoneyPass network, which provides free access to more than 11,000 ATMs nationwide for its customers.

Profitably grow and deepen customer relationships in all four key market segments: Commercial Business, Commercial Real Estate, Consumer and Business Banking. Consumer banking continues to be an important component of the Bank's strategic priorities. Consumer banking services include a broad array of consumer loan, deposit and investment products offered to consumer and commercial customers through Provident's banking office network and ProvidentDirect, the Bank's direct channel sales center. In addition, the Bank has significantly expanded its online deposit account capabilities, including the introduction of mobile banking services in early 2008, allowing customers to perform banking transactions via mobile devices such as cellular phones. The business banking segment is further supported by relationship managers who provide comprehensive business product and sales support to expand existing customer relationships and acquire new clients. Commercial banking is the other key component to the Corporation's regional presence in its market area. Commercial banking provides lending services through its commercial business division and its commercial real estate division. The commercial business division provides customized banking solutions to middle market commercial customers while the commercial real estate division provides lending expertise and financing options to real estate customers. The Bank has an experienced team of relationship managers with expertise in business and real estate lending to companies in various industries in the region. It also has a suite of cash management products managed by responsive account teams that deepen customer relationships through competitively priced deposit based services, responsive service and frequent personal contact with each customer.

Consistently execute a higher-performance, customer relationship-focused sales culture. The Corporation's transition to a customer relationship driven sales culture requires deepening relationships through cross-selling and the continuing emphasis on retention of valued customers. The Bank has segmented its customers to better understand and anticipate their financial needs

and provide Provident's sales force with a targeted approach to customers and prospects. The successful execution of this strategic priority will be centered on the right size bank commitment-providing the service of a community bank combined with the convenience and wide array of products and services that a major regional bank offers. This strategy is measured and monitored by a number of actions such as the utilization of individual performance and incentive plans.

Sustain a culture that attracts and retains employees who provide the differentiating "Provident Way" customer experience. Provident has always placed a high priority on its employees and has approached employee development and training with renewed emphasis. Employee development is viewed as a critical part of executing Provident's strategic priority as the right size bank and transforming the Corporation's sales culture with a focus on the employee's development and approach with Provident's customers. This strategy is measured and monitored by a number of actions, such as utilization of individual development plans for every employee and tracking individual employee learning activities through our learning management system.

Expand delivery (branch and non-branch) within the market Provident serves. Provident supplements organic growth opportunities with acquisitions if they are a strategic fit and are within the Corporation's pricing model. Over the past five years, Provident has expanded its branch network by a net 28 in-store or traditional branches.

FINANCIAL REVIEW

The principal objective of this Financial Review is to provide an overview of the financial condition and results of operations of Provident Bankshares Corporation and its subsidiaries year over year, unless otherwise indicated. This discussion and tabular presentations should be read in conjunction with the accompanying unaudited Condensed Consolidated Financial Statements and Notes.

Overview of Income and Expenses

Income

The Corporation has two primary sources of pre-tax income. The first is net interest income. Net interest income is the difference between interest income-which is the income that the Corporation earns on its loans and investments-and interest expense-which is the interest that the Corporation pays on its deposits and borrowings.

The second principal source of pre-tax income is non-interest income-the compensation received from providing products and services. The majority of the non-interest income comes from service charges on deposit accounts. The Corporation also earns income from insurance commissions, mortgage banking fees and other fees and charges.

The Corporation recognizes gains or losses as a result of sales of investment securities or the disposition of loans, foreclosed property, fixed assets or early extinguishment of debt. In addition, the Corporation also recognizes gains or losses on its outstanding derivative financial instruments or impairment on investment securities that are considered other-than-temporarily impaired. Gains and losses are not a regular part of the Corporation's primary source of income.

Expenses

The expenses the Corporation incurs in operating its business consist of salaries and employee benefits expense, occupancy expense, furniture and equipment expense, external processing fees, deposit insurance premiums, advertising expenses, and other miscellaneous expenses.

Salaries and employee benefits expense consists primarily of the salaries and wages paid to employees, payroll taxes, and expenses for health care, retirement and other employee benefits.

Occupancy expenses, which are fixed or variable costs associated with premises and equipment, consist primarily of lease payments, real estate taxes, depreciation charges, maintenance and cost of utilities.

Furniture and equipment include expenses and depreciation charges related to office and banking equipment. Depreciation of furniture and equipment is computed using the straight-line method based on the useful lives of related assets. Estimated lives are 2 to 15 years for building and leasehold improvements, and 3 to 10 years for furniture and equipment.

External processing fees are fees paid to third parties mainly for data processing services.

Restructuring activities are incremental expenses associated with corporate-wide efficiency and infrastructure initiatives implemented to simplify the Corporation's business model as is discussed further in the Notes to the Condensed Consolidated Financial Statements.

Other expenses include expenses for attorneys, accountants and consultants, fees paid to directors, franchise taxes, charitable contributions, insurance, office supplies, postage, telephone and other miscellaneous operating expenses.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The unaudited Condensed Consolidated Financial Statements of the Corporation are prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities for the reporting periods. Management evaluates estimates on an on-going basis, and believes the following represent its more significant judgments and estimates used in preparation of its consolidated financial statements: allowance for loan losses, non-accrual loans, other real estate owned, estimates of fair value and intangible assets associated with mergers, other-than-temporary impairment of investment securities, pension and post-retirement benefits, asset prepayment rates, goodwill and intangible assets, share-based payment, derivative financial instruments, litigation and income taxes. Management bases its estimates on historical experience and various other factors and assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Management believes the following critical accounting policies affect its more significant judgments and estimates used in preparation of its unaudited Condensed Consolidated Financial Statements:
allowance for loan losses, fair value, other-than-temporary-impairment of investment securities, derivative financial instruments, goodwill and intangible assets, and income taxes. Each estimate and its financial impact, to the extent significant to financial results, are discussed in the Notes to the Condensed Consolidated Financial Statements. It is at least reasonably possible that each of the Corporation's estimates could change in the near term or that actual results may differ from these estimates under different assumptions or conditions, resulting in a change that could be material to the Condensed Consolidated Financial Statements.

FINANCIAL CONDITION

Capital growth, liquidity and earnings along with maintaining a strong balance sheet in this current economic environment are the top priorities of the Corporation. During the first nine months of 2008, the Corporation was successful in raising capital and maintaining strong regulatory capital ratios along with increasing the Corporation's liquidity position. In addition, the financial condition of the Corporation reflects the strengthening of the Corporation's franchise in the key major markets of Greater Baltimore, Greater Washington, D.C. and Central Virginia, through expanded business development and the execution of the Corporation's strategic priorities including growing loans and deposits. Growth in relationship-based loan portfolios (loans other than the Corporation's originated and acquired residential mortgage loans) is a reflection of the Corporation's ability to grow the loan portfolio in these key markets through its lending expertise and focus on its premier loan programs - home equity, commercial real estate, and commercial business. The Corporation also grew deposits, mainly from the use of brokered certificates of deposit, which offset the decline in deposits resulting from the sale of six branches and associated deposits to Union Bankshares in September 2007, increased competition for deposits and the significant decline in real estate related activity, which affects the related escrow deposits. During the third quarter of 2008, the Corporation increased its liquidity position and reduced its reliance on short-term borrowings by increasing its brokered certificates of deposit balances. Over the past twelve months, loan credit quality has declined and is primarily related to the weakness in the residential construction industry, but is still believed to be at manageable levels. In addition, values of investment securities have been negatively impacted by the economic down turn and turmoil in the financial markets.

The core banking performance has resulted in an increase in average relationship-based loans of $282.1million, or 7.7%, manageable loan credit quality levels and only a slight increase in non-interest expense of $508 thousand for the quarter ended September 30, 2008 when compared to the same period a year ago. In addition, the Corporation increased its total risk-based capital ratio, which was already considered "well capitalized" for regulatory purposes in the third quarter of 2008 when compared to the third quarter of 2007. At September 30, 2008, total assets were $6.4 billion, while total loans and deposits were $4.3 billion and $4.6 billion, respectively.

Stockholders' Equity and Capital

In 2008, long-term capital growth is a specific focus for the Corporation. To provide capital growth, the Corporation successfully completed a multi-tiered capital plan in April 2008 to strengthen the Corporation's capital base, including the issuance of $64.8 million in equity securities and $50 million in subordinated debt. In addition, beginning with the dividend that was paid in May 2008, the quarterly dividend payment was reduced by 66% and is expected to result in an annual savings of approximately $29 million, providing the least costly source to re-build tangible common equity.

On April 9, 2008, the Corporation entered into a Stock Purchase Agreement (the "Agreement") with certain institutional and individual accredited investors and certain officers of the Corporation and members of the Corporation's Board of Directors in connection with the private placement of approximately $64.8 million of its capital stock. The Agreement provided for the sale of 1,422,110 shares of the Corporation's common stock at a price of $9.50 per share ($10.80 for officers and directors of the Corporation, which was the closing bid price on April 8, 2008, the date prior to the execution of the Agreement), and 51,215 shares of a newly created class of Series A Mandatory Convertible Non-Cumulative Preferred Stock (the "Series A Preferred") at a purchase price and liquidation preference of $1,000 per share. The transaction closed on April 14, 2008. Net proceeds from the equity offering totaled $62.4 million.

On April 24, 2008, the Corporation's wholly owned subsidiary, Provident Bank, completed a private placement of $50.0 million of subordinated unsecured notes that are rated BBB to qualified institutional buyers and accredited investors. The purchase price of the subordinated notes was 97.651% of the principal amount. The subordinated notes bear interest at a fixed rate of 9.5% and mature on May 1, 2018, with semi-annual interest payments payable on May 1 and November 1 of each year beginning on November 1, 2008. The subordinated notes are not convertible. The net proceeds from the debt offering totaled $47.7 million and qualifies for Tier II regulatory capital.

The equity raised from the capital activities discussed above and the equity preserved from the dividend reduction, partially offset by the year-to-date net loss in 2008 improved the Corporation's Tier 1 and total risk-based capital ratios at September 30, 2008, when compared to December 31, 2007.

Total stockholders' equity was $542.5 million at September 30, 2008, a decrease of $13.3 million from December 31, 2007. Stockholders' equity increased by $13.6 million from the issuance of common stock and $51.2 million from the issuance of preferred stock, partially offset by $2.5 million of costs associated with the issuance of the equity raised. Net accumulated other comprehensive loss increased $45.4 million during the period primarily due to the decline in the market value of the debt securities portfolio. Stockholders' equity was further impacted by the $12.8 million net loss for the nine months ended September, 2008, common stock dividends of $17.6 million, preferred stock dividends of $1.5 million, a $2.2 million increase due to share based payment activity and approximately $500 thousand decline in other activities.

The Company's tangible common equity ratio decreased from 5.86% at December 31, 2007 to 5.65% at September 30, 2008. The decline is mainly associated with the $12.8 million net loss recorded in the first nine months of 2008. The tangible common equity ratio is a non-GAAP measure used by management to evaluate capital adequacy. Tangible common equity is total equity excluding net accumulated other comprehensive loss ("OCI"), less goodwill and deposit-based intangibles and preferred stock. Tangible assets are total assets less goodwill and deposit-based intangibles. The tangible common equity ratio is calculated by removing the impact of OCI, preferred stock and certain intangible assets from total equity and total assets. Management and many stock analysts use the tangible common equity ratio in conjunction with more traditional bank capital ratios to compare the capital adequacy of banking organizations with significant amounts of goodwill or other intangible assets, typically stemming from the use of the purchase accounting method accounting for mergers and acquisitions. Management believes this is an important benchmark for the Corporation and for investors. Neither tangible common equity, tangible assets nor the related measures should be considered in isolation or as a substitute for stockholders' equity, total assets or any other measure calculated in accordance with GAAP. Moreover, the manner in which the Corporation calculates its tangible common equity, tangible assets and the related measures may differ from that of other companies reporting measures with similar names. The following table is a reconciliation of the Corporation's tangible common equity and tangible assets for the periods ended September 30, 2008, December 31, 2007 and September 30, 2007, respectively.

                                             September 30,         December 31,         September 30,
(dollars in thousands)                           2008                  2007                 2007
Total equity capital per consolidated
financial statements                        $       542,464       $      555,771       $       610,721
Accumulated other comprehensive loss                113,544               68,177                46,565
Goodwill                                           (252,095 )           (253,906 )            (253,906 )
Deposit-based intangible                             (5,203 )             (6,152 )              (6,474 )
Preferred stock                                     (51,215 )                 -                     -

Tangible common equity                      $       347,495       $      363,890       $       396,906


Total assets per consolidated financial
statements                                  $     6,410,476       $    6,465,046       $     6,364,010
Goodwill                                           (252,095 )           (253,906 )            (253,906 )
Deposit-based intangible                             (5,203 )             (6,152 )              (6,474 )

Tangible assets                             $     6,153,178       $    6,204,988       $     6,103,630


Tangible common equity ratio                      5.65%                 5.86%                6.50%

The Corporation is required to maintain minimum amounts and ratios of core capital to adjusted quarterly average assets ("leverage ratio") and of Tier 1 and total regulatory capital to risk-weighted assets. The actual regulatory capital ratios and required ratios for capital adequacy purposes under FIRREA and the ratios to be categorized as "well capitalized" under prompt corrective action regulations are summarized in the following table.

                                       September 30,         December 31,
(dollars in thousands)                     2008                  2007
Total equity capital per
consolidated financial statements     $       542,464       $      555,771
Qualifying trust preferred
securities                                    129,000              129,000

Accumulated other comprehensive
loss                                          113,544               68,177

Adjusted capital                              785,008              752,948
Adjustments for tier 1 capital:
Goodwill and disallowed assets               (266,539 )           (260,186 )

Total tier 1 capital                          518,469              492,762

Adjustments for tier 2 capital:
Allowance for loan losses                      59,674               55,269
Subordinated debt                              50,000                   -
Allowance for letter of credit
losses                                            724                  635

Total tier 2 capital adjustments              110,398               55,904

Total regulatory capital              $       628,867       $      548,666


Risk-weighted assets                  $     5,248,843       $    5,057,463
Quarterly regulatory average
assets                                      6,177,557            6,145,549

                                                                                   Minimum
                                                                                  Regulatory        To be "Well
Ratios:                                                                          Requirements       Capitalized"
Tier 1 leverage                                  8.39 %               8.02 %             4.00 %             5.00 %
Tier 1 capital to risk-weighted
assets                                           9.88                 9.74               4.00               6.00
Total regulatory capital to
risk-weighted assets                            11.98                10.85               8.00              10.00

As of September 30, 2008, the Corporation is considered "well capitalized" for regulatory purposes.

In October 2008, U.S. government agencies have initiated a number of actions designed to provide or improve stability to the financial system. One such action is the U.S. Treasury's Troubled Asset Relief Program Capital Purchase Program. This program offers qualifying institutions the opportunity to issue and sell preferred stock, along with warrants to purchase common stock to the U.S. Treasury on what it believes to be favorable terms. Capital raised from this program is considered Tier 1 capital. The Corporation has been granted preliminary approval by the U.S. Treasury to participate in this program and the Corporation's board of directors has approved participation in the program. Participation in the program would provide additional capital that would improve the Corporation's already "well capitalized" regulatory capital ratios.

Liquidity

An important component of the Corporation's asset/liability structure is the level of liquidity available to meet the needs of customers and creditors. Traditional sources of bank liquidity include deposit growth, loan repayments, investment maturities, asset sales, borrowings and interest received. Management believes the Corporation has sufficient liquidity to meet future funding needs.

The Corporation's chief source of liquidity is the assets it possesses, which can either be pledged as collateral for secured borrowings or sold outright. At September 30, 2008, over $180 million of the Corporation's investment portfolio was immediately saleable at a market value equaling or exceeding its amortized cost basis. As an alternative to asset sales, the Corporation has the ability to pledge assets to raise secured borrowings. At September 30, 2008, $821.6 million of secured borrowings were employed, with sufficient collateral available to raise additional secured borrowings of over $970 million from the FHLB-Atlanta, the Federal Reserve's term auction facility, and securities sold under repurchase agreements. Additionally, over $396 million of borrowing capacity exists at the Federal Reserve discount window as a contingent funding source. The Corporation also employs unsecured funding sources such as fed funds and brokered certificates of deposit. At September 30, 2008, $215.0 million of fed funds were employed, compared with funding lines in place of $885 million. At September 30, 2008, the Corporation had $1.1 billion of brokered certificates of deposit outstanding.

A significant use of the Corporation's liquidity is the dividends paid to stockholders. The Corporation is a one-bank holding company that relies upon the Bank's performance to generate capital growth through Bank earnings. A portion of the Bank's earnings is passed to the Corporation in the form of cash dividends. As a commercial bank under the Maryland Financial Institution Law, the Bank may declare cash dividends from undivided profits or, with the prior approval of the Commissioner of Financial Regulation, out of paid-in capital in excess of 100% of its required capital stock, and after providing for due or accrued expenses, losses, interest and taxes. The dividends paid to the Corporation by the Bank are utilized to pay dividends to stockholders, repurchase shares and pay interest on junior subordinated debentures. The Corporation and the Bank, in declaring and paying dividends, are also limited by the minimum regulatory capital requirements. The Corporation and the Bank are in compliance with these capital requirements. If the Corporation or the Bank were . . .