Overview

The following is management's discussion and analysis of the major factors that influenced the Company's consolidated results of operations for the three months ended March 31, 2009 and 2008 and financial condition as of March 31, 2008 and December 31, 2008. This analysis should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 2008 and with the unaudited consolidated financial statements and notes as set forth in this report.

FORWARD-LOOKING STATEMENTS

Certain matters discussed under this caption may constitute forward-looking statements under Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements other than statements of historical fact are forward looking statements. There can be no assurance that the results described or implied in such forward-looking statements will, in fact, be achieved and actual results, performance, and achievements could differ materially because the business of the Company involves inherent risks and uncertainties, many of which are difficult to predict and are generally beyond the control of the Company. Risks and uncertainties include, but not limited to, possible future deteriorating economic conditions in the Company's areas of operation; interest rate risk associated with volatile interest rates and related asset-liability matching risk; liquidity risks; risk of significant non-earning assets, and net credit losses that could occur, particularly in times of weak economic conditions or times of rising interest rates; risks of available-for-sale securities declining significantly in value as interest rates rise or issuers of such securities suffer financial losses; increased competition among depository institutions; successful completion of planned acquisitions and effective integration of the acquired entities; the economic and regulatory effects of the continuing war on terrorism and other events of war, including the wars in Iraq and Afghanistan; the effect of natural disasters, including earthquakes, fires and hurricanes; and regulatory risks associated with the variety of current and future regulations to which the Company is subject. All of these risks could have a material adverse impact on the Company's financial condition, results of operations or prospects, and these risks should be considered in evaluating the Company. For additional information concerning these factors, see "Interest Rate Risk Management" and "Liquidity and Capital Resources" contained in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section of our Form 10-K for the year ended December 31, 2008, as supplemented by the information contained in this report.

Critical Accounting Policies

Accounting estimates and assumptions discussed in this section are those that the Company considers to be the most critical to an understanding of the Company's financial statements because they inherently involve significant judgments and uncertainties. The financial information contained in these statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred. These critical accounting policies are those that involve subjective decisions and assessments and have the greatest potential impact on the Company's results of operations. Management has identified its most critical accounting policies to be those relating to the following: investment securities, loan sales, allowance for loan losses, deferred income taxes and share-based compensation. The following is a summary of these accounting policies. In each area, the Company has identified the variables most important in the estimation process. The Company has used the best information available to make the estimations necessary to value the related assets and liabilities. Actual performance that differs from the Company's estimates and future changes in the key variables could change future valuations and impact net income.

Investment Securities

Under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, investment securities generally must be classified as held-to-maturity, available-for-sale or trading. The appropriate classification is based partially on the Company's ability to hold the securities to maturity and largely on management's intentions with respect to either holding or selling the securities. The classification of investment securities is significant since it directly impacts the accounting for unrealized gains and losses on securities. Unrealized gains and losses on trading securities flow directly through earnings during the periods in which they arise, whereas with respect to available-for-sale securities, they are recorded as a separate component of shareholders' equity (accumulated comprehensive other income or loss) and do not affect earnings until realized. The fair values of the Company's investment securities are generally determined by reference to quoted market prices and reliable independent sources. The Company is obligated to assess, at each reporting date, whether there is other-than-temporary impairment (OTTI) to the Company's investment securities. Such impairment must be recognized in current earnings rather than in other comprehensive income. The Company did not have any investment securities that were deemed to be "other-than-temporarily" impaired as of March 31, 2009.

Loan Sales

Certain Small Business Administration loans and other loans that the Company has the intent to sell prior to maturity are designated as held for sale typically at origination and recorded at the lower of cost or market value, on an aggregate basis. Upon management's decision, certain loans in the portfolio may be reclassified to the held for sale category prior to any commitment by the Company to sell the loans. Such decision is usually made to rebalance the loan portfolio and to better manage the Company's liquidity and capital resources. A valuation allowance is established if the market value of such loans is lower than their cost, and operations are charged or credited for valuation adjustments. A portion of the premium on sale of loans is recognized as other operating income at the time of the sale. The remaining portion of the premium relating to the portion of the loan retained is deferred and amortized over the remaining life of the loan as an adjustment to yield. Servicing assets or liabilities are recorded when loans are sold with servicing retained, based on the present value of the contractually specified servicing fee, net of servicing costs, over the estimated life of the loan, using a discount rate based on the related note rate plus 1 to 2%. Net servicing assets, or servicing assets net of servicing liabilities, are amortized in proportion to and over the period of estimated future servicing income. Management periodically evaluates the net servicing asset for impairment, which is the carrying amount of the net servicing asset in excess of the related fair value. Impairment, if it occurs, is recognized as a write-down in the period of impairment.

Allowance for Loan Losses

Loan losses are charged, and recoveries are credited to the allowance account. Additions to the allowance account are charged to the provision for loan losses. The allowance for loan losses is maintained at a level considered adequate by management to absorb inherent losses in the loan portfolio. The adequacy of the allowance for loan losses is determined by management based upon an evaluation and review of the loan portfolio, consideration of historical loan loss experience, current economic conditions, and changes in the composition of the loan portfolio, analysis of collateral values, and other pertinent factors. While management uses available information to recognize possible losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses. Such agencies may require the Company to recognize additional allowance based on their judgments about information available to them at the time of their examination.

Impaired Loans

Loans are measured for impairment when it is probable that not all amounts, including principal and interest, will be collected in accordance with the contractual terms of the loan agreement. The amount of impairment and any subsequent changes are recorded through the provision for loan losses as an adjustment to

the allowance for loan losses. Impairment is measured either based on the present value of the loan's expected future cash flows or the estimated fair value of the collateral less related liquidation costs. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

The Company evaluates consumer loans for impairment on a pooled basis. These loans are considered to be smaller balance, homogeneous loans, and are evaluated on a portfolio basis accordingly.

Deferred Taxes

Deferred income taxes are provided for using an asset and liability approach. Deferred income tax assets and liabilities represent the tax effects, based on current tax law, of future deductible or taxable amounts attributable to events that have been recognized in the consolidated financial statements. As of March 31, 2009, the Company's deferred tax assets were primarily due to allowance for loans losses and impairment losses on securities available for sale.

Share-based Compensation

The Company adopted SFAS No. 123R as of January 1, 2006 as discussed in Note 5 to the interim consolidated financial statements. SFAS No. 123R requires the Company to recognize compensation expense for all share-based payments made to employees based on the fair value of the share-based payment on the date of grant. The Company elected to use the modified prospective method for adoption, which requires compensation expense to be recorded for all unvested stock options beginning in the first quarter of adoption. For all unvested options outstanding as of January 1, 2006, the previously measured but unrecognized compensation expense, based on the fair value at the original grant date, is recognized on a straight-line basis in the consolidated statements of operations over the remaining vesting period. For share-based payments granted subsequent to January 1, 2006, compensation expense, based on the fair value on the date of grant, is recognized in the consolidated statements of operations on a straight-line basis over the vesting period. In determining the fair value of stock options, the Company uses the Black-Scholes option-pricing model that employs the following assumptions:

• Expected volatility-based on the weekly historical volatility of our stock price, over the expected life of the option.

• Expected term of the option-based on historical employee stock option exercise behavior, the vesting terms of the respective option and a contractual life of ten years.

• Risk-free rate-based upon the rate on a zero coupon U.S. Treasury bill, for periods within the contractual life of the option, in effect at the time of grant.

• Dividend yield-calculated as the ratio of historical dividends paid per share of common stock to the stock price on the date of grant.

The Company's stock price volatility and option lives involve management's best estimates at that time, both of which impact the fair value of the option calculated under the Black-Scholes methodology and, ultimately, the expense that will be recognized over the life of the option.

SUMMARY OF FINANCIAL DATA

Executive Overview

Consolidated net loss for the first quarter of 2009 was $2.7 million, or loss of $0.19 per share compared to consolidated net income of $4.2 million or $0.26 per diluted share in the first quarter of 2008. The following were significant highlights related to first quarter of 2009 results as compared to the corresponding period of 2008:

• Net interest income before provision for loan losses was $15.9 million and $18.6 million for three months ended March 31, 2009 and 2008, respectively. Due to the decrease in market rates and the increase in non-accrual loans, the average yield on loans for the first quarter of 2009 decreased to 5.91% compared to

• Net interest margin for the first quarter of 2009 decreased to 3.34% compared to 3.77% for the same quarter of 2008. Loan yields declined 151 basis points whereas the cost of deposits declined only 125 basis points. Interest income on all non-accrual loans amounting to $693,000 was not recognized during the first quarter of 2009 including the reversal of interest income on loans classified to non-accrual status during the quarter. The cost of interest-bearing liabilities decreased to 2.92% for the first quarter of 2009 as compared to 4.36% for the same period in 2008.

• The provision for loan losses was $14.5 million for the three months ended March 31, 2009 compared to $2.2 million for the same period in 2008. The increase was primarily due to an increase in historical loss experience, an increase in the level of nonperforming loans, and the deterioration in the overall economy indicated by the elevated levels of unemployment and business failures negatively affecting the Company's customers.

• The Company's efficiency ratio improved to 51.7% for the three months ended March 31, 2009, compared to 59.5% for the same period in 2008. The improvement relates to the decrease in noninterest expenses primarily salaries and benefits expenses, legal fees, business promotion and advertising expenses and other operating expenses offset by increases in the FDIC assessment and accounting and other professional fees.

• Return on average assets and return on average equity decreased to (0.54)% and (4.94)%, respectively, for the three months ended March 31, 2009, compared to 0.79% and 10.47% during the same period in 2008. Return on average assets and the return on average equity decreased due to the consolidated net loss primarily resulting from the compression of net interest margin, and the increase in the loan loss provision, in spite of an increase in total noninterest income and a decrease in noninterest expense during the first quarter of 2009 as compared to the same period in 2008.

The following are important factors in understanding the Company's financial condition and liquidity:

• The Company's gross loans decreased by $55.6 million, or 3.2%, during the three months ended March 31, 2009. Net loans and loans held for sale decreased by $66.9 million, or 4.0%, to $1.61 billion at March 31, 2009, as compared to $1.68 billion at December 31, 2008. The decrease in the loan portfolio was mainly the result of a lower levels of loan production and higher levels of loan pay-offs during the first quarter of 2009 compared to the same period in 2008. The weakening economy has adversely affected the ability to originate loans in the current quarter.

• Total deposits increased $60.5 million or 3.8% to $1.66 billion at March 31, 2009 compared to $1.60 billion at December 31, 2008. The increases in deposits were mostly due to increases in customer deposits through a deposit campaign.

• As a result of the aforementioned reduction in loan portfolio and the increase in deposits, the ratio of net loans to total deposits decreased to 96.9% at March 31, 2009 as compared to 104.7% at December 31, 2008.

• Total nonperforming loans increased to $56.3 million as of March 31, 2009 from $20.5 million as of December 31, 2008 and $6.4 million as of March 31, 2008, respectively. The ratio of nonperforming loans to total gross loans increased to 3.38% at March 31, 2009 compared to 1.19% at December 31, 2008. The ratio of allowance for loan losses to total nonperforming loans decreased to 88% at March 31, 2009, as compared to 187% at December 31, 2008 and our allowance for losses to total gross loans increased to 2.99% at March 31, 2009 compared to 2.22% at December 31, 2008. The Company's loan portfolio has experienced an increase in the migration of loans to non-accrual status over the past two quarters.

• The Company suspended its quarterly cash dividend of $0.05 per share in March 2009 and does not expect to resume the payment of such dividend for the foreseeable future.

EARNINGS PERFORMANCE ANALYSIS

As previously noted and reflected in the consolidated statements of operations, the Company recorded consolidated net loss of $2.7 million during the three months ended March 31, 2009 compared to consolidated net income of $4.2 million during the same period in 2008. The Company earns income from two primary sources: net interest income, which is the difference between interest income generated from the successful deployment of earning assets and interest expense created by interest-bearing liabilities; and noninterest income, which is basically fees and charges earned from customer services less the operating costs associated with providing a full range of banking services to customers.

Net Interest Income and Net Interest Margin

The following table presents the net interest spread, net interest margin,
average balances, interest income and expense, and average yields and rates by
asset and liability component:



                                                                 Three Months Ended March 31,
                                                     2009                                           2008
                                                  Interest      Annualized                       Interest      Annualized
                                     Average       Income/        Average           Average       Income/        Average
                                     Balance       Expense     Rate/Yield(1)        Balance       Expense     Rate/Yield(1)
            Assets:
Interest-earning assets:
Loans (2)                          $ 1,668,873    $  24,311             5.91 %    $ 1,816,673    $  33,610             7.42 %
Federal funds sold                      56,598           35             0.25            4,751           41             3.46
Investments (3) (4)                    205,180        2,291             4.53          162,965        2,028             5.01

Total interest-earning assets
(4)                                  1,930,651       26,637             5.60        1,984,389       35,679             7.23

Noninterest-earning assets:
Cash and due from banks                 41,163                                         59,990
Bank premises and equipment,
net                                     14,750                                         13,987
Customers' acceptances
outstanding                              3,851                                          3,389
Accrued interest receivables             6,853                                          8,198
Other assets                            45,940                                         38,658

Total noninterest-earning
assets                                 112,557                                        124,222

Total assets                       $ 2,043,208                                    $ 2,108,611

 Liabilities and Shareholders'
            Equity:
Interest-bearing liabilities:
Deposits:
Money market and NOW accounts      $   452,204    $   2,221             1.99 %    $   297,569    $   2,702             3.64 %
Savings                                 51,343          451             3.56           53,830          445             3.32
Time certificates of deposit
over $100,000                          645,656        4,763             2.99          809,216        9,540             4.73
Other time certificates of
deposit                                147,355        1,290             3.55          116,478        1,350             4.65

                                     1,296,558        8,725             2.73        1,277,093       14,037             4.41
Other borrowed funds                   176,864        1,818             4.17          277,136        2,717             3.93
Long-term subordinated
debentures                              18,557          192             4.20           18,557          326             7.05

Total interest-bearing
liabilities                          1,491,979       10,735             2.92        1,572,786       17,080             4.36

Noninterest-bearing
liabilities:
Demand deposits                        305,690                                        351,107

Total funding liabilities            1,797,669                          2.42 %      1,923,893                          3.56 %

Other liabilities                       21,799                                         23,090

Total noninterest-bearing
liabilities                            327,489                                        374,197
Shareholders' equity                   223,740                                        161,628

Total liabilities and
shareholders' equity               $ 2,043,208                                    $ 2,108,611

Net interest income (4)                           $  15,902                                      $  18,599

Cost of deposits                                                        2.21 %                                         3.46 %

Net interest spread (5)                                                 2.68 %                                         2.88 %

Net interest margin (6)                                                 3.34 %                                         3.77 %

(1) Average rates/yields for these periods have been annualized.

(2) Loans are net of the allowance for loan losses, deferred fees, and discount on SBA loans retained. Loan fees included in interest income were approximately $143,000 for the three months ended March 31, 2009 and $467,000 for the same period in 2008. Amortized loan fees have been included in the calculation of net interest income. Nonperforming loans have been included in the table for computation purposes, but the foregone interest on such loans is excluded.

(3) Investments include securities available for sale, securities held to maturity, FHLB and Pacific Coast Bankers Bank stock and money market funds and interest-bearing deposits in other banks.

(4) Interest income on a tax equivalent basis for tax-advantaged investments was not included in the computation of yields. Such income amounted to $4,000 and $22,000 for the three months ended March 31, 2009 and 2008, respectively.

(5) Represents the weighted average yield on interest-earning assets less the weighted average cost of interest-bearing liabilities.

(6) Represents net interest income (before provision for loan losses) as a percentage of average interest-earning assets as adjusted for tax equivalent basis for any tax advantaged income.

The following table sets forth, for the periods indicated, the dollar amount of changes in interest earned and paid for interest-earning assets and interest-bearing liabilities and the amount of change attributable to
(i) changes in average daily balances (volume) and (ii) changes in interest rates (rate):

                                               Three Months Ended March 31, 2009
                                                            vs. 2008
                                              Increase (Decrease) Due to Change In
                                           Volume            Rate(7)            Total
  Earning assets:
  Interest income:
  Loans (8)                             $     (2,573 )     $     (6,726 )    $    (9,299 )
  Federal funds sold                              65                (71 )             (6 )
  Investments (9)                                486               (223 )            263

  Total earning assets                        (2,022 )           (7,020 )         (9,042 )

  Interest expense:
  Deposits and borrowed funds:
  Money market and super NOW accounts          1,063             (1,544 )           (481 )
  Savings deposits                               (21 )               27                6
  Time certificates of deposits               (1,362 )           (3,474 )         (4,836 )
  Other borrowings                            (1,026 )              126             (900 )
  Long-term subordinated debentures               -                (134 )           (134 )

  Total interest-bearing liabilities          (1,346 )           (4,999 )         (6,345 )

  Net interest income                   $       (676 )     $     (2,021 )    $    (2,697 )

(7) Average rates/yields for these periods have been annualized.

(8) Loans are net of the allowance for loan losses, deferred fees, and discount on SBA loans retained. Loan fees included in interest income were approximately $143,000 for the three months ended March 31, 2009 and $467,000 for the same period in 2008. Amortized loan fees have been included in the calculation of net interest income. Nonperforming loans have been included in the table for computation purposes, but the foregone interest on such loans is excluded.

(9) Interest income on a tax equivalent basis for tax-advantaged investments was not included in the computation of yields. Such income amounted to $4,000 and $22,000 for the three months ended March 31, 2009 and 2008, respectively.

The Company's net interest income depends on the yields, volume, and mix of its earning asset components, as well as the rates, volume, and mix associated with its funding sources. The Company's net interest margin is its taxable-equivalent net interest income expressed as a percentage of its average earning assets.

Total interest and dividend income for the three months ended March 31, 2009 was $26.6 million compared to $35.7 million for the same period in 2008. The decrease was primarily due to market rate decreases and the reduction in earning assets. Average net loans decreased by $147.8 million or 8.1% for the three months ended March 31, 2009 compared to the same period in 2008. In addition, interest income on non-accrual loans amounting to $693,000 was not recognized during the first quarter of 2009 as a result of the significant increase in non-accruals loans starting from the fourth quarter of 2008.

Total interest expense for the three months ended March 31, 2009 decreased by $6.3 million or 37.1% compared to the same period in 2008. The decrease was primarily due to the decreases in market rates set by the FOMC and interest-bearing liabilities during the past year. Average interest bearing liabilities decreased by $80.8 million for the three months ended March 31, 2009 compared to the same period in 2008.

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