Management's discussion and analysis ("MD&A") provides supplemental information, which sets forth the major factors that have affected our financial condition and results of operations and should be read in conjunction with the Consolidated Financial Statements and related notes. The MD&A is divided into subsections entitled "Business Overview," "Financial Overview," "Results of Operations," "Financial Condition," "Market Risk and Interest Rate Sensitivity," "Liquidity and Capital Resources," "Off-Balance Sheet Arrangements," and "Accounting Policies." The following information should provide a better understanding of the major factors and trends that affect our earnings performance and financial condition, and how our performance during 2009 compares with prior years. Throughout this section, Capital City Bank Group, Inc., and subsidiaries, collectively, are referred to as "CCBG," "Company," "we," "us," or "our."

In this MD&A, we present an operating efficiency ratio and an operating net noninterest expense as a percent of average assets ratio, both of which are not calculated based on accounting principles generally accepted in the United States ("GAAP"), but that we believe provide important information regarding our results of operations. Our calculation of the operating efficiency ratio is computed by dividing noninterest expense less intangible amortization and merger expenses, by the sum of tax equivalent net interest income and noninterest income. We calculate our operating net noninterest expense as a percent of average assets by subtracting noninterest expense excluding intangible amortization and merger expenses from noninterest income. Management uses these non-GAAP measures as part of its assessment of its performance in managing noninterest expenses. We believe that excluding intangible amortization and merger expenses in our calculations better reflect our periodic expenses and is more reflective of normalized operations.

Although we believe the above-mentioned non-GAAP financial measures enhance investors' understanding of our business and performance, these non-GAAP financial measures should not be considered an alternative to GAAP. In addition, there are material limitations associated with the use of these non-GAAP financial measures such as the risks that readers of our financial statements may disagree as to the appropriateness of items included or excluded in these measures and that our measures may not be directly comparable to other companies that calculate these measures differently. Our management compensates for these limitations by providing detailed reconciliations between GAAP information and the non-GAAP financial measure as detailed below.

Reconciliation of operating efficiency ratio to efficiency ratio:

                                                                      Three Months Ended
                                                                           December 31,        March 31,
                                                      March 31, 2009           2009              2008
Efficiency ratio                                                77.50 %            74.35 %          66.40 %
Effect of intangible amortization expense                       (2.43 )%           (3.14 )%         (3.25 )%
Operating efficiency ratio                                      75.07 %            71.21 %          63.15 %

Reconciliation of operating net noninterest expense ratio:

                                                                   Three Months Ended
                                                      March 31,       December 31,        March 31,
                                                        2009              2008              2008
Net noninterest expense as a percent of average
assets                                                      2.97 %             2.85 %           1.82 %
Effect of intangible amortization expense                  (0.16 )%           (0.20 )%         (0.22 )%
Operating net noninterest expense as a percent of
average assets                                              2.81 %             2.65 %           1.60 %

The following discussion should be read in conjunction with the condensed consolidated financial statements and notes thereto included in this Quarterly Report on Form 10-Q.

This Quarterly Report on Form 10-Q, including this MD&A section, contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, among others, statements about our beliefs, plans, objectives, goals, expectations, estimates and intentions that are subject to significant risks and uncertainties and are subject to change based on various factors, many of which are beyond our control. The words "may," "could," "should," "would," "believe," "anticipate," "estimate," "expect," "intend," "plan," "target," "goal," and similar expressions are intended to identify forward-looking statements.

All forward-looking statements, by their nature, are subject to risks and uncertainties. Our actual future results may differ materially from those set forth in our forward-looking statements. Please see the Introductory Note and Item 1A. Risk Factors of our 2008 Report on Form 10-K, as updated in our subsequent quarterly reports filed on Form 10-Q, and in our other filings made from time to time with the SEC after the date of this report.

However, other factors besides those listed in our Quarterly Report or in our Annual Report also could adversely affect our results, and you should not consider any such list of factors to be a complete set of all potential risks or uncertainties. Any forward-looking statements made by us or on our behalf speak only as of the date they are made. We do not undertake to update any forward-looking statement, except as required by applicable law.

BUSINESS OVERVIEW

We are a financial holding company headquartered in Tallahassee, Florida and we are the parent of our wholly-owned subsidiary, Capital City Bank (the "Bank" or "CCB"). The Bank offers a broad array of products and services through a total of 68 full-service offices located in Florida, Georgia, and Alabama. The Bank offers commercial and retail banking services, as well as trust and asset management, retail securities brokerage and data processing services.

Our profitability, like most financial institutions, is dependent to a large extent upon net interest income, which is the difference between the interest received on earning assets, such as loans and securities, and the interest paid on interest-bearing liabilities, principally deposits and borrowings. Results of operations are also affected by the provision for loan losses, operating expenses such as salaries and employee benefits, occupancy and other operating expenses including income taxes, and noninterest income such as service charges on deposit accounts, asset management and trust fees, retail securities brokerage fees, mortgage banking revenues, bank card fees, and data processing revenues.

Our philosophy is to grow and prosper, building long-term relationships based on quality service, high ethical standards, and safe and sound banking practices. We maintain a locally oriented, community-based focus, which is augmented by experienced, centralized support in select specialized areas. Our local market orientation is reflected in our network of banking office locations, experienced community executives with a dedicated President for each market, and community boards which support our focus on responding to local banking needs. We strive to offer a broad array of sophisticated products and to provide quality service by empowering associates to make decisions in their local markets.

Our long-term vision is to continue our expansion, emphasizing a combination of growth in existing markets and acquisitions. Acquisitions will continue to be focused on a three state area including Florida, Georgia, and Alabama with a particular focus on financial institutions, which are $100 million to $400 million in asset size and generally located on the outskirts of major metropolitan areas. Five markets have been identified, four in Florida and one in Georgia, in which management will proactively pursue expansion opportunities. These markets include Alachua, Marion, and Hernando and Pasco counties in Florida and the western panhandle in Florida and Bibb and surrounding counties in central Georgia. We continue to evaluate de novo expansion opportunities in attractive new markets in the event that acquisition opportunities are not feasible. Other expansion opportunities that will be evaluated include asset management and mortgage banking.

The global and U.S. economies are experiencing significantly reduced business activity as a result of, among other factors, disruptions in the financial system in the past year. In fact, the National Bureau of Economic Research announced that the U.S. had entered into a recession in December 2007. Dramatic declines in the housing market during the past year, with falling home prices and increasing foreclosures and unemployment, have resulted in significant write-downs of asset values by financial institutions, including government-sponsored entities and major commercial and investment banks. These write-downs, initially of mortgage-backed securities but spreading to credit default swaps and other derivative securities, as well as other areas of the credit market, including investment grade and non-investment grade corporate debt, convertible securities, emerging market debt and equity, and leveraged loans, have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. The magnitude of these declines led to a crisis of confidence in the financial sector as a result of concerns about the capital base and viability of certain financial institutions. During this period, interbank lending and commercial paper borrowing fell sharply, precipitating a credit freeze for both institutional and individual borrowers. This market turmoil and tightening of credit have led to an increased level of consumer and commercial delinquencies, lack of consumer confidence, increased market volatility and widespread reduction of business activity generally. The resulting economic pressure on consumers and lack of confidence in the financial markets has, in some cases, adversely affected the financial services industry.

Over the course of the past year, the landscape of the U.S. financial services industry changed dramatically, especially during the fourth quarter of 2008. Lehman Brothers Holdings Inc. declared bankruptcy and many major U.S. financial institutions consolidated were forced to merge or were put into conservatorship by the U.S. Federal Government, including The Bear Stearns Companies, Inc., Wachovia Corporation, Washington Mutual, Inc., Federal Home Loan Mortgage Corporation and Federal National Mortgage Association. In addition, the U.S. Federal Government provided a sizable loan to American International Group Inc. ("AIG") in exchange for an equity interest in AIG.

Much of our lending operations are in the State of Florida, which has been particularly hard hit in the current U.S. recession. Evidence of the economic downturn in Florida is reflected in current unemployment statistics. The Florida unemployment rate at March 2009 increased to 9.7% from 8.1% at the end of 2008 and 4.7% at the end of 2007, reaching the highest level since 1976. A worsening of the economic condition in Florida would likely exacerbate the adverse effects of these difficult market conditions on our customers, which may have a negative impact on our financial results.

In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, on October 3, 2008, the Emergency Economic Stabilization Act of 2008 (the "EESA") was signed into law. Pursuant to the EESA, the U.S. Treasury was given the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets.

On October 14, 2008, the Secretary of the Department of the Treasury announced that the Department of the Treasury will purchase equity stakes in a wide variety of banks and thrifts. Under the program, known as the Troubled Asset Relief Program Capital Purchase Program (the "TARP Capital Purchase Program"), from the $700 billion authorized by the EESA, the Treasury made $250 billion of capital available to U.S. financial institutions in the form of preferred stock. In conjunction with the purchase of preferred stock, the Treasury received, from participating financial institutions, warrants to purchase common stock with an aggregate market price equal to 15% of the preferred investment. Participating financial institutions were required to adopt the Treasury's standards for executive compensation and corporate governance for the period during which the Treasury holds equity issued under the TARP Capital Purchase Program. On November 13, 2008, we announced that we would not apply for funds available through the TARP Capital Purchase Program. In March 2009, the U.S. Treasury announced a public-private investment program (commonly known as P-PIP), which is designed to (1) remedy the illiquidity in the secondary markets for certain mortgage-backed securities and (2) create a market for troubled loans on the balance sheets of U.S. banks and thrifts. At this time, we have no plans to participate in the P-PIP.

On November 21, 2008, the Board of Directors of the FDIC adopted a final rule relating to the Temporary Liquidity Guarantee Program ("TLG Program"). The TLG Program was announced by the FDIC on October 14, 2008 as an initiative to counter the system-wide crisis in the nation's financial sector. Under the TLG Program the FDIC will (i) guarantee, through the earlier of maturity or June 30, 2012, certain newly issued senior unsecured debt issued by participating institutions on or after October 14, 2008, and before June 30, 2009 and (ii) provide full FDIC deposit insurance coverage for non-interest bearing transaction deposit accounts, Negotiable Order of Withdrawal ("NOW") accounts paying less than 0.5% interest per annum and Interest on Lawyers Trust Accounts held at participating FDIC insured institutions through December 31, 2009. Coverage under the TLG Program was available for the first 30 days without charge. The fee assessment for coverage of senior unsecured debt ranges from 50 basis points to 100 basis points per annum, depending on the initial maturity of the debt. The fee for deposit insurance coverage is an annualized 10 basis points assessed on a per quarter basis on amounts in covered accounts exceeding $250,000. On December 12, 2008, we announced that we would participate in both guarantee programs.

As an FDIC-insured institution, the Bank is required to pay deposit insurance premiums to the FDIC. Because the FDIC's deposit insurance fund fell below prescribed levels in 2008, the FDIC has announced increased premiums for all insured depository institutions in order to begin recapitalizing the fund. Insurance assessments range from 0.12% to 0.50% of total deposits for the first calendar quarter 2009 assessment. Effective April 1, 2009, insurance assessments will range from 0.07% to 0.78%, depending on an institution's risk classification and other factors.

In addition, under a proposed rule, the FDIC indicated its plans to impose a 20 basis point emergency assessment on insured depository institutions to be paid on September 30, 2009, based on deposits at June 30, 2009. FDIC representatives subsequently indicated the amount of this special assessment could decrease if certain events transpire. The proposed rule would also authorize the FDIC to impose an additional emergency assessment of up to 10 basis points after June 30, 2009, if necessary to maintain public confidence in federal deposit insurance. The emergency assessment if enacted at the 20 basis point level, would generate an additional deposit insurance premium expense of approximately $4.0 million in 2009 and will be reflected in other expenses in the period of enactment.

A summary overview of our financial performance for the first quarter of 2009 versus the linked fourth quarter of 2008 and the first quarter of 2008 is provided below.

Financial Performance Highlights -

· Net income for the first quarter of 2009 totaled $.7 million ($0.04 per diluted share) compared to a net loss of $1.7 million ($0.10 per diluted share) in the fourth quarter of 2008 and net income of $7.3 million ($0.42 per diluted share) for the first quarter of 2008. Our loan loss provisions for these respective periods were $8.4 million ($.30 per share), $12.5 million ($.45 per share), and $4.1 million ($.15 per share). In addition, net income for the first quarter of 2008 included two Visa Inc. related transactions totaling $2.3 million or $0.13 per diluted share (after-tax).

· Tax equivalent net interest income decreased $.8 million, or 2.8% from the prior quarter due to two less calendar days and the one-time recapture of interest from the resolution of a problem loan during the fourth quarter of 2008. Compared to the first quarter of 2008, tax equivalent net interest income increased $.5 million, or 1.9%, due to lower interest expense reflective of aggressive deposit re-pricing in response to the rate reductions initiated by the Federal Reserve - these actions drove a 43 basis point improvement in our net interest margin.

· Noninterest income increased $.7 million or 5.5% over the prior quarter and declined $3.8 million, or 21.1%, from the first quarter of 2008. Higher mortgage banking fees and bank card fees drove the improvement over the prior quarter. A one-time $2.4 million gain from the redemption of Visa shares and a lower level of merchant fees attributable to the sale of a portion of our merchant services portfolio drove the year over year decrease.

· Noninterest expense increased $1.3 million, or 4.0%, from the prior quarter and $2.5 million, or 8.3%, from the first quarter of 2008. Higher pension expense drove the increase for both periods. A one-time entry of $1.1 million in the first quarter of 2008 to reverse a portion of our Visa litigation accrual and higher FDIC insurance premiums also contributed to the year over year increase.

· Loan loss provision of $8.4 million or 1.6 times net charge-offs for the first quarter of 2009 reflects a higher level of identified problem loans, which includes impaired loans, and an increase in loan loss factors. As of March 31, 2009, the allowance for loan losses was 2.04% of total loans compared to 1.89% at year-end 2008 and 1.06% at the end of the first quarter 2008.

· We repurchased approximately 146,000 shares of our common stock during the first quarter of 2009 at a weighted average share price of $10.65.

· As of March 31, 2009 we are well-capitalized with a risk based capital ratio of 14.40% and a tangible capital ratio of 7.63% compared to 14.69% and 7.76%, respectively, at year-end 2008 and 14.01% and 7.73%, respectively, at March 31, 2008.

RESULTS OF OPERATIONS

Net Income

Net income totaled $.7 million ($.04 per diluted share) for the first quarter of 2009 compared to a net loss of $1.7 million ($.10 per diluted share) for the linked fourth quarter of 2008 and net income of $7.3 million ($.42 per diluted share) for the first quarter of 2008.

The increase in net income compared to the linked quarter reflects a lower loan loss provision ($4.1 million), higher noninterest income ($731,000), partially offset by lower net interest income ($753,000), higher noninterest expense ($1.3 million) and a lower provision for tax benefits ($158,000).

The year over year decrease in net income is attributable to a higher loan loss provision ($4.3 million), lower noninterest income ($3.8 million), and higher noninterest expense ($2.5 million) partially offset by higher net interest income ($537,000) and lower income tax expense ($3.3 million). Net income for the first quarter of 2008 included a $2.4 million pre-tax gain from the redemption of Visa shares related to their initial public offering, the reversal of $1.1 million (pre-tax) of Visa litigation reserves, and the reversal of $577,000 in accrued expense for our 2011 Incentive Plan.

A condensed earnings summary and a more detailed discussion of each major component of our financial performance are provided below:

                                                                    Three Months Ended
                                                       March 31,       December 31,        March 31,
(Dollars in Thousands, except per share data)            2009              2008              2008
Interest Income                                       $    31,053     $       33,229      $    38,723
Taxable equivalent Adjustments(1)                             583                640              619
Total Interest Income (FTE)                                31,636             33,869           39,342
Interest Expense                                            4,058              5,482           12,264
Net Interest Income (FTE)                                  27,578             28,387           27,078
Provision for Loan Losses                                   8,410             12,497            4,142
Taxable Equivalent Adjustments                                583                640              619
Net Interest Income After provision for Loan Losses        18,585             15,250           22,317
Noninterest Income                                         14,042             13,311           17,799
Noninterest Expense                                        32,257             31,002           29,798
Income Before Income Taxes                                    370             (2,441 )         10,318
Income Taxes                                                 (280 )             (738 )          3,038
Net income                                            $       650     $       (1,703 )    $     7,280

Basic Net Income Per Share                            $      0.04     $         (.10 )    $      0.42
Diluted Net Income Per Share                          $      0.04     $         (.10 )    $      0.42

Return on Average Assets(2)                                  0.11 %            (0.28 )%          1.11 %
Return on Average Equity(2)                                  0.94 %            (2.24 )%          9.87 %

(1) Computed using a statutory tax rate of 35%

(2) Annualized

Net Interest Income

Net interest income represents our single largest source of earnings and is equal to interest income and fees generated by earning assets, less interest expense paid on interest bearing liabilities. This information is provided on a "taxable equivalent" basis to reflect the tax-exempt status of income earned on certain loans and investments, the majority of which are state and local government debt obligations. We provide an analysis of our net interest income including average yields and rates in Table I on page 33.

Tax equivalent net interest income for the first quarter of 2009 was $27.6 million compared to $27.1 million for the first quarter of 2008 and $28.4 million for the fourth quarter of 2008. The increase in the net interest income compared to the first quarter of 2008 primarily reflects aggressive deposit repricing in response to the rate reductions initiated by the Federal Reserve, partially offset by higher foregone interest on nonaccrual loans, a reduction in loan fees and one less calendar day in the first quarter of 2009.

The decrease in the net interest income on a linked quarter basis partially reflects two less calendar days in the first quarter. Additionally, the fourth quarter of 2008 was favorably impacted by a $784,000 interest recovery attributable to the resolution of a problem loan, which we acquired in one of our bank acquisitions several years ago. Lower foregone interest on nonaccrual loans and an increase in loan fees partially offset the decline in net interest income.

For the first quarter of 2009, taxable-equivalent interest income decreased $7.7 million, or 19.6%, over the first quarter in 2008 and $2.2 million, or 7.1%, from the linked quarter. Taxable equivalent interest income was unfavorably impacted by the lower rate environment in 2008, the higher level of foregone interest on non-performing loans and a decline in loan fees, all of which resulted in lower yields on our earning assets. These factors produced a 95 basis point decline in the yield on earning assets, which decreased from 6.87% in the first quarter of 2008 to 5.92% in the comparable period in 2009. This yield declined 35 basis points when compared to the linked quarter.

Interest income is expected to decline further throughout 2009, reflecting the lower interest rate environment stemming from reductions in the Federal Reserve's target rate throughout 2008, and the continued impact of foregone interest income associated with the current level of nonperforming assets.

Interest expense decreased $8.2 million, or 66.9%, from the first quarter of 2008, and $1.4 million, or 26.0%, from the linked quarter. The decrease was experienced in interest on deposits and short-term borrowings, primarily as a result of lower average interest rates and a favorable shift in the deposit
mix. Management responded aggressively to the reductions in the Federal Reserve's target rate, which began in September 2007 and continued throughout 2008. We continue to believe the overall impact of the rate reductions have been successfully neutralized by us aggressively lowering our deposit rates.

Our interest rate spread (defined as the average federal taxable-equivalent yield on earning assets less the average rate paid on interest bearing liabilities) increased from 4.28% in the first quarter of 2008 to 4.98% in the comparable period of 2009. The increase was primarily attributable to the rapid repricing of our deposit base in 2008, which more than offset the adverse impact of lower rates and higher foregone interest.

Our net interest margin (defined as federal taxable-equivalent net interest income divided by average earning assets) was 5.16% in the first three months of 2009, versus 4.73% for the comparable quarter in 2008. The increase in the net interest margin compared to the first quarter of 2008 primarily reflects aggressive deposit repricing in response to the rate reductions initiated by the Federal Reserve, partially offset by higher foregone interest on nonaccrual loans, a reduction in loan fees and one less calendar day in the first quarter of 2009. The net interest margin in the current quarter declined 10 basis points from the 5.26% posted for the linked quarter. The interest recovery recorded on the resolution of a problem loan added 15 basis points to the margin in the fourth quarter of 2008. The improvement in the margin over the linked quarter . . .