Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations

FORWARD-LOOKING STATEMENTS

Management's discussion and analysis contains forward-looking statements that are provided to assist in the understanding of anticipated future financial performance. However, such performance involves risks and uncertainties, and there are certain important factors that may cause actual results to differ materially from those anticipated. These important factors include, but are not limited to, economic conditions (both generally and more specifically in the markets in which Premier operates), competition for Premier's customers from other providers of financial services, government legislation and regulation (which changes from time to time), changes in interest rates, Premier's ability to originate quality loans, collect delinquent loans and attract and retain deposits, the impact of Premier's growth, Premier's ability to control costs, and new accounting pronouncements, all of which are difficult to predict and many of which are beyond the control of Premier. The words "may," "could," "should," "would," "will," "believe," "anticipate," "estimate," "expect," "intend," "plan," "project," "predict," "continue" and similar expressions are intended to identify forward-looking statements.

A. Results of Operations

A financial institution's primary sources of revenue are generated by interest income on loans, investments and other earning assets, while its major expenses are produced by the funding of these assets with interest bearing liabilities. Effective management of these sources and uses of funds is essential in attaining a financial institution's optimal profitability while maintaining a minimum amount of interest rate risk and credit risk.

Net income for the nine months ended September 30, 2008 was $5,634,000, or $0.96 per share, compared to net income of $5,383,000, or $1.03 per share for the nine months ended September 30, 2007. The increase in income reported for 2008 was primarily the result of higher interest income and non-interest income as well as lower interest expense all of which was partially offset by higher non-interest expense. The increase in each of these categories was primarily the result of the increase in operations from the acquisitions of Citizens First Bank ("Citizens First) and Traders Bankshares, Inc. ("Traders"), both of which occurred at the close of business on April 30, 2008. The operating results of Citizens First and Traders are included in the consolidated financial statements of Premier only from the date of acquisition. The decrease in earnings per share resulted from the increase in the average shares outstanding related to the common stock issued as part of the merger consideration of Citizens First and Traders as more fully described in Note 10 to the consolidated financial statements.

Net income for the three months ended September 30, 2008 was $1,930,000, or $0.30 per share, compared to net income of $1,807,000, or $0.35 per share for the three months ended September 30, 2007. The increase in income reported for 2008 was the result of higher interest income and non-interest income as well as lower interest expense all of which was partially offset by higher non-interest expense. Again, the increase in each of these categories was primarily the result of the increase in operations from the acquisitions of Citizens First Bank ("Citizens First) and Traders Bankshares, Inc. ("Traders"), both of which occurred at the close of business on April 30, 2008.

Net interest income for the nine months ending September 30, 2008 totaled $19.22 million, up $2.57 million or 15.4% from the $16.65 million of net interest income earned in the first nine months of 2007. Interest income in 2008 increased by $2.07 million or 8.0%. The increase in interest income is due to the $3.79 million of interest income earned in May through September by Citizens First and Traders banks. Excluding their operations, interest income declined by $1.71 million or 6.6% in 2008. Interest income on loans decreased by $1.40 million, due to lower interest yields earned although on a higher average volume of loans outstanding. Interest earned on federal funds sold decreased by $906,000, due to sharply lower yields earned and a lower volume outstanding. However, interest earned on investments increased by $606,000, due to higher average yields on a 10.2% increase in the average volume of investments. The decreases in the yields on loans and federal funds sold in 2008 are largely the result of the rapid decrease in market interest rates following the Federal Reserve Bank Board of Governors' monetary policy changes in the first quarter of 2008.

Interest expense in the first nine months of 2008 decreased by $494,000 or 5.3%, despite the inclusion of the operations of Citizens First and Traders. Excluding the $1.11 million of interest expense of Citizens First and Traders, interest expense declined by $1.60 million or 17.0% in 2008 compared to 2007, nearly offsetting the $1.71 million decrease in interest income described above. Interest expense on deposits decreased by $1.31 million, largely due to lower rates paid although on a slightly higher average balance of deposits outstanding. Interest expense on repurchase agreements and other short-term borrowings decreased $57,000 in 2008, largely due to lower rates paid on a slightly larger average balance. Interest expense on FHLB advances and other borrowings decreased $236,000 in 2008 due to accelerated principal payments made in 2007 on higher cost borrowings, and rate decreases on Premier's variable rate borrowings at the parent. The new borrowing at the parent to fund the purchase of Traders has had little overall impact on the first nine months of 2008 compared to the same period of 2007. The interest expense associated with increase in the year-to-date average debt outstanding has been more than offset by the reduction in interest rates on the borrowings due to the declines in national prime lending rates. However, the $16.0 million of borrowings at the parent as of September 30, 2008 is expected to have a greater impact on interest expense in the last quarter of 2008 and on into the first half of 2009.

As a result of the decrease in market interest rates following the Federal Reserve Bank Board of Governors' monetary policy changes, coupled with acquisitions of Citizens First and Traders, Premier's overall net interest margin for the first nine months of 2008 decreased to 4.24% compared to 4.39% for the same period of 2007.

Additional information on Premier's net interest income for the first nine months of 2008 and 2007 is contained in the following table.

                                              PREMIER FINANCIAL BANCORP, INC.
                                            AVERAGE CONSOLIDATED BALANCE SHEETS
                                             AND NET INTEREST INCOME ANALYSIS

                               Nine Months Ended Sept. 30, 2008                    Nine Months Ended Sept. 30, 2007
                           Balance           Interest       Yield/Rate         Balance           Interest       Yield/Rate
Assets
Interest Earning
Assets
Federal funds sold
and other               $      40,816       $       714            2.33 %   $      38,696       $     1,508            5.21 %
Securities available
for sale
Taxable                       157,014             5,308            4.51           122,247             4,093            4.46
Tax-exempt                      5,778               153            5.35             4,104               118            5.81
Total investment
securities                    162,792             5,461            4.54           126,351             4,211            4.51
Total loans                   402,185            21,961            7.27           343,759            20,343            7.91
Total
interest-earning
assets                        605,793            28,136            6.21 %         508,806            26,062            6.86 %
Allowance for loan
losses                         (7,814 )                                            (6,650 )
Cash and due from
banks                          17,099                                              13,871
Other assets                   39,846                                              29,547
Total assets            $     654,924                                       $     545,574

Liabilities and
Equity
Interest-bearing
liabilities
Interest-bearing
deposits                $     447,196             8,072            2.40     $     376,335             8,273            2.94
Short-term borrowings          15,989               191            1.59            13,195               248            2.51
FHLB advances                   4,755               220            6.16             5,530               272            6.58
Other borrowings               11,624               433            4.96            10,548               617            7.82
Total
interest-bearing
liabilities                   479,564             8,916            2.48 %         405,608             9,410            3.10 %
Non-interest bearing
deposits                       91,594                                              74,279
Other liabilities               5,443                                               2,578
Shareholders' equity           78,323                                              63,109
Total liabilities and
equity                  $     654,924                                       $     545,574

Net interest earnings                       $    19,220                                         $    16,652
Net interest spread                                                3.73 %                                              3.76 %
Net interest margin                                                4.24 %                                              4.39 %

Additional information on Premier's net interest income for the third quarter of 2008 and third quarter of 2007 is contained in the following table.

                                               PREMIER FINANCIAL BANCORP, INC.
                                             AVERAGE CONSOLIDATED BALANCE SHEETS
                                               AND NET INTEREST INCOME ANALYSIS

                                Three Months Ended Sept. 30, 2008                    Three Months Ended Sept. 30, 2007
                            Balance            Interest       Yield/Rate         Balance            Interest       Yield/Rate
Assets
Interest Earning
Assets
Federal funds sold and
other                    $      40,153       $        184            1.82 %   $       35,222       $       450            5.07 %
Securities available
for sale
Taxable                        171,516              1,920            4.48            124,134             1,425            4.59
Tax-exempt                       7,272                 60            5.00              4,007                38            5.75
Total investment
securities                     178,788              1,980            4.50            128,141             1,463            4.63
Total loans                    455,272              8,112            7.07            344,319             6,825            7.86
Total interest-earning
assets                         674,213             10,276            6.07 %          507,682             8,738            6.85 %
Allowance for loan
losses                          (8,912 )                                              (6,612 )
Cash and due from
banks                           18,951                                                13,865
Other assets                    49,468                                                30,137
Total assets             $     733,720                                        $      545,072

Liabilities and Equity
Interest-bearing
liabilities
Interest-bearing
deposits                 $     495,284              2,733            2.19     $      375,838             2,815            2.97
Short-term borrowings           21,540                 85            1.57             13,235                83            2.49
FHLB advances                    4,684                 73            6.18              4,923                76            6.13
Other borrowings                16,140                208            5.11              8,912               174            7.75
Total interest-bearing
liabilities                    537,648              3,099            2.29 %          402,908             3,148            3.10 %
Non-interest bearing
deposits                       105,944                                                74,833
Other liabilities                4,661                                                 2,875
Shareholders' equity            85,467                                                64,456
Total liabilities and
equity                   $     733,720                                        $      545,072

Net interest earnings                        $      7,177                                          $     5,590
Net interest spread                                                  3.78 %                                               3.75 %
Net interest margin                                                  4.25 %                                               4.39 %

Net interest income for the quarter ending September 30, 2008 totaled $7.18 million, up $1.59 million or 28.4% from the $5.59 million of net interest income earned in the third quarter of 2007. Interest income in 2008 increased by $1.54 million or 17.6%. The increase in interest income is due to the $2.26 million of interest income earned during the quarter by Citizens First and Traders banks. Excluding their operations, interest income declined by $725,000 or 8.3% in 2008. Interest income on loans decreased by $513,000, due to lower interest yields earned although on a 4.3% higher average volume of loans outstanding. Interest earned on federal funds sold decreased by $328,000, due to sharply lower yields earned and a lower volume outstanding. However, interest earned on investments increased $130,000 in 2008, largely due to a 7.0% increase in the average volume of investments and a slightly higher yield. The decreases in the yields on loans and federal funds sold in 2008 are largely the result of the rapid decrease in market interest rates following the Federal Reserve Bank Board of Governors' monetary policy changes in the first quarter of 2008.

Interest expense in the third quarter of 2008 decreased by $49,000 or 1.6%, despite the inclusion of the operations of Citizens First and Traders. Excluding the $656,000 of interest expense of Citizens First and Traders, interest expense declined by $705,000 or 22.4% in the third quarter of 2008 compared to the same period in 2007, offsetting a substantial portion of the $725,000 decrease in interest income described above. Interest expense on deposits decreased by $738,000, largely due to lower rates paid on a slightly lower average balance of interest-bearing deposits outstanding. Interest expense on repurchase agreements and other short-term borrowings increased $2,000 in the third quarter of 2008 compared to the same quarter of 2007, as savings from lower rates paid were offset by a larger average balance. Interest expense on FHLB advances and other borrowings increased $31,000 in the third quarter of 2008 primarily due to higher interest expense on borrowings at the parent. The decline in interest expense from decreases in the loan interest rates have been more than offset by the increase in the average balance of borrowings outstanding for the quarter due to the impact of the new borrowing at the parent to fund the purchase of Traders.

As a result of the decrease in market interest rates following the Federal Reserve Bank Board of Governors' monetary policy changes, coupled with acquisitions of Citizens First and Traders, Premier's overall net interest margin for the third quarter of 2008 decreased to 4.25% compared to 4.39% for the same quarter of 2007.

Non-interest income increased $541,000 to $4,002,000 for the first nine months of 2008. This total includes $93,000 of gains on the sale of securities in 2008 and $150,000 of income received for extending the Company's ATM processing contract. Non-interest income in 2007 included $212,000 of life insurance benefits on the death of a former officer of a subsidiary. All of these should be considered non-recurring income. Excluding the non-recurring income, non-interest income in the first nine months of 2008 increased $510,000, or 15.7% when compared to the first nine months of 2007. Included in this increase is $439,000 of non-interest income from the operations of Citizens First and Traders. Excluding their operations, service charges on deposit accounts increased by $88,000 or 4.3%, electronic banking income (income from debit/credit cards, ATM fees and internet banking charges) increased by $91,000 or 20.4% while secondary market mortgage income decreased by $76,000, or 16.5%. The increase in electronic banking income in 2008 is largely due to increases in Premier's deposit customer base and their greater propensity to use electronic means to conduct their banking business. Premier's conversion to a more modern banking software system in 2005 has allowed Premier to offer more electronic banking services and made it easier for customers to conduct their banking electronically. Premier converted its two newest affiliate banks to these systems in August and October of 2008. The decrease in secondary market mortgage income in 2008 is primarily due to a significant decrease in the appetite of secondary market mortgage loan purchasers as brokers have either tightened their credit standards or have ceased buying new mortgages in an effort to avoid further exposure to sub-prime lending. Premier concentrates its efforts on selling high quality mortgage loans and routinely searches for new buyers for these loans; however, the volume of future sales may depend on factors beyond the control of the Company.

For the quarter ending September 30, 2008, non-interest income increased $274,000 to $1,384,000. Excluding the operations of Citizens First and Traders, non-interest income increased by $13,000 or 1.2% in the third quarter of 2008 compared to the same quarter of 2007. Excluding their operations, service charges on deposit accounts increased by $72,000 or 10.4%, electronic banking income increased by $37,000 or 23.7% while secondary market mortgage income decreased by $88,000, or 51.2%.

Non-interest expenses for the first nine months of 2008 totaled $14,707,000 or 3.00% of average assets on an annualized basis compared to $12,232,000 or 3.00% of average assets for the same period of 2007. The $2,475,000 increase in non-interest expenses in 2008 when compared to the first nine months of 2007 is largely due to the additional operations of Citizens First and Traders. Excluding their operations, non-interest expense in the first nine months of 2008 increased by $323,000 or 2.6%. Excluding the operations of Citizens First and Traders, staff costs decreased by $18,000 or 0.3% in 2008 as normal salary and benefit increases have been more than offset by staff reductions in 2007 and an increase in the deferral of loan origination costs. Occupancy and equipment expenses decreased by $30,000 or 2.0%. Outside data processing costs increased by $153,000 or 9.7% in 2008 largely due to fee increases for core processing and ATM processing, additional costs for year-end processing, and new charges related to the electronic "capture" of customer checks for digital clearing purposes. Professional fees increased by $226,000 or 75.1% in 2008 largely due to legal and other professional help to complete the acquisitions of Citizens First and Traders. Taxes other than payroll, property and income decreased by $17,000 or 3.9% in 2008. Write-downs, expenses and sales of other real estate owned (OREO) increased by $106,000 due to gains of the disposition of OREO during the third quarter of 2007. Supplies expense increased by $20,000 in 2008, while other operating expenses decreased by $117,000 in 2008 largely due to $120,000 of collection expense reimbursements received in the first quarter of 2008, lower collection expenses incurred in 2008, reduced courier costs resulting from electronic clearing of customer checks rather than physically transporting the paper items to be cleared, partially offset by a $43,000 increase in FDIC insurance premiums, higher director expenses and higher travel expense.

Non-interest expenses for the third quarter of 2008 totaled $5,581,000 or 3.04% of average assets on an annualized basis compared to $3,957,000 or 2.90% of average assets for the same period of 2007. Again, the $1,624,000 increase in non-interest expenses in the third quarter of 2008 when compared to same period of 2007 is largely due to the additional operations of Citizens First and Traders. Excluding their operations, non-interest expense in the third quarter of 2008 increased by $284,000 or 7.2% when compared to the third quarter of 2007. Excluding the operations of Citizens First and Traders, staff costs increased by $99,000 or 4.6% in 2008 as a result of normal salary increases and higher workers compensation expense. Occupancy and equipment expenses decreased by $18,000 or 3.7%, largely due to lower equipment maintenance and repair costs and lower depreciation expense on information technology assets. Outside data processing costs increased by $40,000 or 7.5% in 2008 largely due to fee increases for core processing and ATM processing, and new charges related to the electronic "capture" of customer checks for digital clearing purposes. Professional fees increased by $52,000 or 47.3% in 2008 largely due to legal and other professional help to complete the acquisitions of Citizens First and Traders. Taxes other than payroll, property and income decreased by $6,000 or 4.7% in 2008. Write-downs, expenses and sales of other real estate owned (OREO) increased by $114,000 largely due to gains on the disposition of OREO in the third quarter of 2007. Supplies expense increased by $2,000 in 2008 while other operating expenses increased by $1,000 in 2008 as lower collection costs, courier costs, secondary market underwriting expenses, and postage costs were offset by higher FDIC insurance, travel costs, director costs and shareholder relations expenses.

Income tax expense was $2,840,000 for the first nine months of 2008 compared to $2,601,000 for the first nine months of 2007. The effective tax rate for the nine months ended September 30, 2008 was 33.5% compared to the 32.6% effective tax rate for the same period in 2007. The increase in income tax expense can be primarily attributed to the increase in pre-tax income related to the operations of Citizens First and Traders detailed above. The increase in the effective tax rate is primarily the result of life insurance benefits realized in 2007 which are exempt from income tax. Income tax expense for the quarter ending September 30, 2008 was $965,000 (33.3% effective tax rate) compared to $911,000 (33.5% effective tax rate) for the same period of 2007. The increase in income tax expense is directly related to the increase in pre-tax income from the operations of Citizens First and Traders.

The annualized returns on shareholders' equity and average assets were approximately 9.45% and 1.13% for the nine months ended September 30, 2008 compared to 11.25% and 1.30% for the same period in 2007. For the quarter ending September 30, 2008, annualized returns on shareholders' equity and average assets were approximately 9.03% and 1.05% compared to 11.22% and 1.33% for the same quarter of 2007.

B. Financial Position

Total assets at September 30, 2008 increased $182.7 million to $732.0 million from the $549.3 million at December 31, 2007. Earning assets increased to $671.4 million at September 30, 2008 from the $507.6 million at December 31, 2007, an increase of $163.9 million, or 32.3%. The increase was primarily due to the acquisitions of Citizens First and Traders which added $180.1 million to total assets and $154.7 million to earning assets. The remaining increase was largely due to increases in total loans outstanding and investment securities, with partially offsetting decreases in federal funds sold and cash and due from banks (see below).

Cash and due from banks at September 30, 2008 was $22.0 million, a $390,000 decrease from the $22.4 million at December 31, 2007. Federal funds sold increased $300,000 from the $32.0 million reported at December 31, 2007. The acquisitions of Citizens First and Traders added $5.6 million to cash and due from bank and $10.8 million to federal funds sold. Excluding the acquisitions, cash and due from banks has decreased by $6.0 million and federal funds sold have decreased by $10.5 million. Changes in these two highly liquid assets are generally in response to increases in deposits, the demand for deposit withdrawals or the funding of loans and are part of Premier's management of its liquidity and interest rate risks. The decrease in cash and due from banks, excluding the acquisitions, was the result of placing surplus balances into interest earning opportunities. Similarly the decrease in federal funds sold was used to help fund loan demand during the second and third quarters of 2008.

Securities available for sale totaled $170.1 million at September 30, 2008, a $45.9 million increase from the $124.2 million at December 31, 2007. The increase was largely due to the acquisitions of Citizens First and Traders which added $44.8 million of securities to Premier's balance sheet. The remaining $1.1 million increase was largely due to $63.8 million of investment purchases versus the volume of sales, calls and maturities that occurred during the first nine months of 2008. During the first three months of 2008, Premier received investable funds from a $15.2 million increase in customer deposits plus $10.6 . . .