The following discussion is intended to provide a more comprehensive review of the Company's operating results and financial condition than can be obtained from reading the Consolidated Financial Statements alone. The discussion should be read in conjunction with the audited financial statements and the notes included later in this report. All numbers, except per share data, are expressed in thousands of dollars.

In addition to historical information, this report may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, but are not limited to, statements about management's plans, objectives, expectations and intentions that are not historical facts, and other statements identified by words such as "expects," "anticipates," "intends," "plans," "believes," "should," "projects," "seeks," "estimates" or words of similar meaning. These forward-looking statements are based on current beliefs and expectations of management and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the Company's control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change. The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations in the forward-looking statements, including those set forth in this report, or the documents incorporated by reference:

o the risks associated with lending and potential adverse changes in credit quality;

o increased loan delinquency rates;

o the risks presented by a continued economic slowdown, which could adversely affect credit quality, loan collateral values, investment values, liquidity levels, and loan originations;

o changes in market interest rates, which could adversely affect our net interest income and profitability;

o legislative or regulatory changes that adversely affect our business or our ability to complete pending or prospective future acquisitions;

o reduced demand for banking products and services;

o the risks presented by public stock market volatility, which could adversely affect the Company's stock value and the ability to raise capital in the future;

o competition from other financial services companies in our markets; and

o the Company's success in managing risks involved in the foregoing.

Additional factors that could cause actual results to differ materially from those expressed in the forward-looking statements are discussed in Risk Factors in Item 1A. Please take into account that forward-looking statements speak only as of the date of this report or documents incorporated by reference. The Company does not undertake any obligation to publicly correct or update any forward-looking statement if we later become aware that it is not likely to be achieved.

HIGHLIGHTS


                                                                                % Change                          % Change
                                             2008                2007         2008 vs. 2007        2006         2007 vs. 2006
Operating revenue (1)                   $        53,540       $   47,351                  13 %   $  44,458                   7 %
Net income                              $        12,939       $   12,935                   0 %   $  12,655                   2 %

Earnings per share (2)
  Basic                                 $          1.08       $     1.09                  -1 %   $    1.09                   0 %
  Diluted                               $          1.08       $     1.08                   0 %   $    1.08                   0 %

Assets, period-end                      $     1,090,843       $  949,271                  15 %   $ 885,351                   7 %
Deposits, period-end                    $       722,437       $  644,424                  12 %   $ 641,272                   0 %

Return on assets                                   1.27 %           1.43 %                            1.53 %
Return on equity                                  11.57 %          12.55 %                           14.02 %
Return on tangible equity (3)                     14.56 %          16.23 %                           19.12 %

(1) Operating income is defined as net interest income plus noninterest income.

(2) Per share data for 2006 was retroactively adjusted to reflect the 10% stock dividend paid in June 2007.

(3) Tangible equity excludes goodwill and core deposit intangible related to acquisitions.

Net income for the year 2008 was $12,939, an increase of $4 over the $12,935 reported for the year 2007. Net income improvement in 2008 over 2007 was modest due to a significant increase in the provision for loan losses, plus growth in noninterest expenses, which offset increased operating revenues. Operating revenue for the year 2008 was up 13% over the year 2007 and was primarily driven by growth in net interest income, which accounted for 92% of total operating revenue in 2008. The improvement in 2008 net interest income was the result of 14% growth in average earning assets combined with a stable net interest margin.

The Company earned $12,935 in 2007 compared to $12,655 in 2006. Growth in operating revenue was primarily responsible for the increased earnings in 2007 over 2006. Operating revenues were $47,351 in 2007, up $2,893 or 7% over 2006. Growth in operating revenues resulted from increased net interest income, which accounted for 92% of total operating revenue in 2007. While average earning assets increased 10% in 2007 over 2006, growth in net interest income in 2007 was slowed by an 8 basis point compression in the net interest margin.

Period-end assets at December 31, 2008 were $1,090,843, compared to $949,271 at December 31, 2007. Core deposits, which are defined as demand deposits, interest checking, money market accounts, and local time deposits (including local time deposits over $100 thousand) constitute 85% of December 31, 2008 outstanding deposits. Non-interest bearing deposits were $178,957 or 25% of total deposits at year-end December 31, 2008.

During 2009, the Company believes the following factors could impact reported financial results:

††† The current national, regional, and local recession and the effect on loan demand, the credit quality of existing clients with lending relationships, and vacancy rates of commercial real estate properties, since a significant portion of our loan portfolio is secured by real estate.

††† A slowing real estate market and increases in residential home inventories for sale and the impact on residential construction lending, delinquency and default rates of existing residential construction loans in the Bank's portfolio, residential mortgage lending, and refinancing activities of existing homeowners.

††† The availability of alternative funding sources due to disruption in the financial and capital markets flowing from the significant downturn in the housing industry

††† The ability to manage noninterest expense growth in light of anticipated significant increases in regulatory costs.

††† The ability to attract and retain qualified and experienced bankers in all markets.

SUMMARY OF CRITICAL ACCOUNTING POLICIES

The SEC defines "critical accounting policies" as those that require the application of management's most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in future periods. Significant accounting policies are described in Note 1 of the Notes to Consolidated Financial Statements for the year ended December 31, 2008 in Item 8 of this report. Management believes that the following policies and those disclosed in the Notes to Consolidated Financial Statements should be considered critical under the SEC definition:

Allowance for Loan Losses and Reserve for Unfunded Commitments

The allowance for outstanding loans is classified as a contra-asset account offsetting outstanding loans, and the allowance for unfunded commitments is classified as an "other" liability on the balance sheet. The allowance for loan losses is established through a provision for loan losses charged against earnings. The balances of the allowance for loan losses for outstanding loans and unfunded commitments are maintained at an amount management believes will be adequate to absorb known and inherent losses in the loan portfolio and commitments to loan funds. The appropriate balance of the allowance for loan losses is determined by applying loss factors to the credit exposure from outstanding loans and unfunded loan commitments. Estimated loss factors are based on subjective measurements including management's assessment of the internal risk classifications, changes in the nature of the loan portfolios, industry concentrations, and the impact of current local, regional, and national economic factors on the quality of the loan portfolio. Changes in these estimates and assumptions are reasonably possible and may have a material impact on the Company's consolidated financial statements, results of operations, or liquidity.

Goodwill and Intangible Assets

At December 31, 2008, the Company had $22,904 in goodwill and other intangible assets. In accordance with Financial Accounting Standard 142, Goodwill and Other Intangible Assets, assets with indefinite lives are no longer amortized, but instead are periodically tested for impairment. Management performs an impairment analysis of the intangible assets with indefinite lives at least annually and has determined that there was no impairment as of December 31, 2008, 2007, and 2006.

Share-based Compensation

In December 2004, the Financial Accounting Standards Board ("FASB") issued SFAS
123(R), Share Based Payment, a revision to the previously issued guidance on accounting for stock options and other forms of equity-based forms of compensation issued to employees. This standard became effective in the first quarter of 2006. The Company uses the Black-Scholes option pricing model to measure fair value under SFAS 123(R) which is further discussed in Note 1 of the Notes to Consolidated Financial Statements in Item 8 below.

The Company adopted SFAS 123(R) using the modified prospective method. Therefore, previously reported financial data was not restated, and expenses related to equity-based payments granted and vesting during 2006, 2007, and 2008 were recorded as compensation expense.

Recent Accounting Pronouncements

Recent accounting pronouncements are discussed in Note 1 of the Notes to the Consolidated Financial Statements for the year ended December 31, 2008 in item 8 of this report. None of these pronouncements are expected to have a significant effect on the Company's financial condition or results of operations.

RESULTS OF OPERATIONS

Net Interest Income

The largest component of the Company's earnings is net interest income. Net interest income is the difference between interest income derived from earning assets, principally loans, and the interest expense associated with interest-bearing liabilities, principally deposits. The volume and mix of earning assets and funding sources, market rates of interest, demand for loans, and the availability of deposits affect net interest income.

4th Quarter 2008 Compared to 4th Quarter 2007

Two tables follow which analyze the changes in net interest income for the fourth quarter 2008 and fourth quarter 2007. Table I "Average Balance Analysis of Net Interest Earnings", provides information with regard to average balances of assets and liabilities, as well as associated dollar amounts of interest income and interest expense, relevant average yields or rates, and net interest income as a percent of average earning assets. Table II "Analysis of Changes in Interest Income and Interest Expense", shows the increase (decrease) in the dollar amount of interest income and interest expense and the differences attributable to changes in either volume or rates.

The Bank's net interest margin for the fourth quarter 2008 was 5.28% compared to 5.15% for the fourth quarter 2007. Table I shows that earning asset yields for the fourth quarter 2008 of 6.63% were down 135 basis points from fourth quarter 2007 earning asset yields due primarily to a 144 basis point decline in the yield on net loans. The decline in loan yields was due to the rapid decline in market interest rates during 2008, which lowered yields on the Bank's variable rate loan portfolio. However, the Bank's practice of including floors on most of its variable rate loans mitigated additional declines in loan yields during this falling rate environment. During the third and fourth quarters 2008, loan yields stabilized due to the activation of interest rate floors on approximately $280,000 of the Bank's variable rate loan portfolio, thus protecting the net interest margin.

Table I shows that the rates paid on interest-bearing core deposits moved down faster than yields on earning assets as evidenced by the 168 basis point decline from 3.24% to 1.56%. In addition, the cost of alternative funding has moved down at a faster rate than core deposits, down 296 basis points from 4.88% to 1.92%. This rapid fall in the cost of alternative funding was due to a planned strategy to maintain a relatively short maturity structure on the Bank's alternative funding, which permitted the Bank to refinance this funding at consistently lower rates during a rapidly declining interest rate environment. Overall, the cost of interest-bearing liabilities of the Bank, which includes both core deposits and alternative funding, has fallen by 205 basis points in fourth quarter 2008 from fourth quarter 2007.

Table I also shows the difference between the cost of interest-bearing core deposits and alternative funding. Overall, interest-bearing core deposits have a rate of 1.56% or 36 basis points lower than alternative funding costs at 1.92%. However, this spread between core deposit rates and alternative funding rates has compressed significantly during the last half of 2008 when compared to the first half of the year when this spread ranged between 140 and 150 basis points. This narrowing spread is again the result of the relatively short maturity structure of the Bank's alternative funding, Federal Reserve actions to lower rates during the fourth quarter 2008, and the relatively high cost of core deposits in a very competitive rate environment.

Table II shows the changes in net interest income due to rate and volume for the quarter ended December 31, 2008. Interest income including loan fees for the fourth quarter 2008 declined by $806 from the same period last year. Higher volumes of earning assets increased interest income by $2,605, while lower yields on earning assets, primarily loans, decreased interest income by $3,411. The rate/volume analysis shows that interest expense for the quarter ended December 31, 2008 decreased by $2,807 from last year, as

                                    Table I
               Average Balance Analysis of Net Interest Earnings
                             (dollars in thousands)

                                          Quarter                                       Quarter
                                           Ended                                         Ended
                                         December                                      December
                                         31, 2008                                      31, 2007
                                         Interest         Average                      Interest         Average
                          Average        Income or       Yields or       Average       Income or       Yields or
                          Balance         Expense          Rates         Balance        Expense          Rates
Interest Earning
Assets
Federal funds sold
and interest-
 bearing deposits in
banks                   $       497     $         2            1.60 %   $     809     $        10            4.90 %
Securities available
for sale:
 Taxable (1)                 57,972             627            4.30 %      52,756             622            4.68 %
 Tax-exempt                   5,187              49            3.76 %       5,247              49            3.71 %
Loans, net of
allowance
 for loan
losses(2)(3)(4)             929,522          15,866            6.79 %     803,999          16,669            8.23 %
 Total interest
earning assets              993,178          16,544            6.63 %     862,811          17,350            7.98 %

Non Earning Assets
Cash and due from
banks                        17,928                                        19,623
Premises and
equipment                    20,892                                        20,856
Goodwill & other
intangibles                  22,935                                        23,159
Interest receivable
and other                    14,845                                         6,925
 Total non interest
assets                       76,600                                        70,563

 Total assets           $ 1,069,778                                     $ 933,374

Interest-Bearing
Liabilities
Money market and NOW
accounts                $   382,144     $    (1,367 )         -1.42 %   $ 378,845     $    (3,066 )         -3.21 %
Savings deposits             21,058             (39 )         -0.74 %      20,650             (82 )         -1.58 %
Time deposits - core
(5)                          44,776            (355 )         -3.15 %      38,313            (424 )         -4.39 %
 Total
interest-bearing core
deposits                    447,978          (1,761 )         -1.56 %     437,808          (3,572 )         -3.24 %

Time deposits -
non-core                     72,052            (536 )         -2.96 %      49,588            (651 )         -5.21 %
Federal funds
purchased                     9,005             (24 )         -1.06 %      16,579            (212 )         -5.07 %
FHLB & FRB borrowings       239,599            (904 )         -1.50 %     135,748          (1,594 )         -4.66 %
Junior subordinated
debentures                    8,248            (125 )         -6.03 %       8,248            (128 )         -6.16 %
 Total
interest-bearing
alternative funding         328,904          (1,589 )         -1.92 %     210,163          (2,585 )         -4.88 %
 Total
interest-bearing
liabilities                 776,882          (3,350 )         -1.72 %     647,971          (6,157 )         -3.77 %

Noninterest-Bearing
Liabilities
Demand deposits             170,897                                       173,706
Interest payable and
other                         7,040                                         4,326
 Total noninterest
liabilities                 177,937                                       178,032
 Total liabilities          954,819                                       826,003
Stockholders' equity        114,959                                       107,371
Total liabilities and
stockholders' equity    $ 1,069,778                                     $ 933,374
Net Interest Income                     $    13,194                                   $    11,193

                                    Table II
          Analysis of Changes in Interest Income and Interest Expense
                             (dollars in thousands)


                                                                        Three Months Ended
                                                         December 31, 2008 compared to December 31, 2007
                                                           Increase (decrease) due to
                                                          Volume                 Rate                  Net
Interest earned on:
Federal funds sold and interest
 bearing deposits in banks                            $            (4 )     $            (4 )     $          (8 )
Securities available-for-sale:
 Taxable                                                           60                   (55 )                 5
 Tax-exempt                                                        (1 )                   1                   -
Loans, net of allowance for loan losses                         2,550                (3,353 )              (803 )

 Total interest income                                $         2,605       $        (3,411 )     $        (806 )


Interest paid on:
Money market and NOW accounts                                     (18 )               1,717               1,699
Savings deposits                                                   (1 )                  44                  43
Time deposits - core                                              (70 )                 139                  69
 Total interest-bearing core deposits                             (89 )               1,900               1,811


Time deposits - non-core                                         (292 )                 407                 115
Federal funds purchased                                            97                    91                 188
FHLB & FRB borrowings                                          (1,212 )               1,902                 690
Junior subordinated debentures                                      -                     3                   3
 Total interest-bearing alternative funding                    (1,407 )               2,403                 996

 Total interest expense                               $        (1,496 )     $         4,303       $       2,807

 Net interest income                                  $         1,109       $           892       $       2,001

2008 Compared to 2007

Two tables follow which analyze the changes in net interest income for the years 2008, 2007, and 2006. Table III "Average Balance Analysis of Net Interest Earnings", provides information with regard to average balances of assets and liabilities, as well as associated dollar amounts of interest income and interest expense, relevant average yields or rates, and net interest income as a percent of average earning assets. Table IV, "Analysis of Changes in Interest Income and Interest Expense", shows the increase (decrease) in the dollar amount of interest income and interest expense and the differences attributable to changes in either volume or rates.

The net interest margin for the full year 2008 was 5.21%, a decline of 1 basis point from the 5.22% net interest margin reported for the year 2007. Table III shows that earning asset yields declined by 134 basis points for the year 2008 when compared to 2007 from 8.31% to 6.97%. The decline in earning assets yields was due primarily to the 141 basis point drop in yields on loans, which resulted from the rapidly declining interest rate environment experienced throughout 2008 that lowered yields on the Bank's variable rate loan portfolio. As noted above, the Bank's use of interest rate floors on its variable rate loan portfolio mitigated further decline in loan yields during the last half of 2008.

Table III also shows the overall cost of interest-bearing liabilities for the year 2007 was down 182 basis points from 4.10% in 2007 to 2.28% in 2008. This decline can be also be attributed to the falling rate environment during 2008, plus the relatively short-maturity structure of the Bank's alternative funding, which permitted rapid refinancing of funding at much lower rates throughout the year. Table III also illustrates the difference between the cost of interest-bearing core deposits for the year 2008 as compared to the cost of interest-bearing alternative funding. The cost of interest-bearing core deposits was 1.85% or 108 basis points less than the 2.93% cost of alternative funding.

2007 Compared to 2006

The net interest margin for the full year 2007 was 5.22%, a decline of 8 basis points from the 5.30% net interest margin reported for the year 2006. Table III shows that earning asset yields improved by 11 basis points for the year 2007 when compared to 2006 from 8.20% to 8.31%. Compression in the net interest margin was primarily due to the increase in the Bank's cost of funding, which more than offset the growth in earning asset yields. Table III shows the overall cost of interest-bearing liabilities for the year 2007 was up 24 basis points from 3.86% in 2006 to 4.10% in 2007. Table III also illustrates the difference between the cost of interest-bearing core deposits for the year 2007 as compared to the cost of interest-bearing alternative funding. The cost of interest-bearing core deposits was 3.61% or 150 basis points less than the 5.11% cost of alternative funding.

The year-to-date December 31, 2007 rate/volume analysis shows that interest income, including loan fees, improved by $7,194 over last year. Higher volumes of earning assets increased interest income by $6,301 and higher yields on loans increased interest income by $893. The rate/volume analysis shows that interest expense for the year 2007 increased by $3,825 over last year, as higher volumes on all deposit categories caused interest expense to increase by $2,157, . . .