In the following pages, Management discusses its analysis of the financial condition and results of operations for the second quarter of 2009 compared to the second quarter of 2008 and to the prior quarter (first quarter of 2009) as well as the six-month period ended June 30, 2009 compared to the same period in 2008. This discussion should be read in conjunction with the related consolidated financial statements in this Form 10-Q and with the audited consolidated financial statements and accompanying notes included in our 2008 Annual Report. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances.

Forward-Looking Statements

This discussion of financial results includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, (the "1933 Act") and Section 21E of the Securities Exchange Act of 1934, as amended, (the "1934 Act"). Those sections of the 1933 Act and 1934 Act provide a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their financial performance so long as they provide meaningful, cautionary statements identifying important factors that could cause actual results to differ significantly from projected results.

Our forward-looking statements include descriptions of plans or objectives of Management for future operations, products or services, and forecasts of its revenues, earnings or other measures of economic performance. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include the words "believe," "expect," "intend," "estimate" or words of similar meaning, or future or conditional verbs such as "will," "would," "should," "could" or "may."

Forward-looking statements are based on Management's current expectations regarding economic, legislative, and regulatory issues that may impact our earnings in future periods. A number of factors-many of which are beyond Management's control-could cause future results to vary materially from current Management expectations. Such factors include, but are not limited to, general economic conditions, changes in interest rates, deposit flows, real estate values and competition; changes in accounting principles, policies or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory and technological factors affecting our operations, pricing, products and services. These and other important factors are detailed in the Risk Factors section of our 2008 Form 10-K as filed with the SEC, copies of which are available from us at no charge. Forward-looking statements speak only as of the date they are made. We do not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events.

Executive Summary

We produced healthy financial results in the first six months of 2009 in a challenging economic climate and continued to focus on our customer relationships which led to higher deposits, a core funding source for our steady loan growth.

We reported second quarter 2009 earnings of $3.1 million, compared to $3.4 million in the second quarter of 2008 and $3.2 million in the first quarter of 2009. Diluted earnings per common share in the second quarter of 2009 were $0.60, compared to $0.65 in the second quarter of 2008, and $0.37 in the first quarter of 2009. Earnings for the six-month period ended June 30, 2009 totaled $6.4 million, compared to $6.7 million for the same period a year ago. Diluted earnings per common share for the six-month period ended June 30, 2009 totaled $0.97, compared to $1.27 for the same period a year ago. The diluted earnings per common share for the first half of 2009 were reduced by $0.25 as a result of the non-recurring accelerated accretion of the redemption premium resulting from our early repurchase of the preferred stock, and dividends on the preferred stock. Further, earnings reflected a special assessment imposed by the Federal Deposit Insurance Corporation ("FDIC") of $496 thousand in the second quarter of 2009, which reduced diluted earnings per share by $0.06 for the second quarter and six-month period ended June 30, 2009.

Gross loans increased $19.1 million, or 2.1%, over December 31, 2008 and totaled $909.6 million at June 30, 2009. The mix of loans reflects an increase in the percentage of home equity lines of credit, as well as a slight decrease in commercial real estate loans.

While the U.S economy showed some signs of improvement during the second quarter of 2009, consumers continue to experience high levels of financial stress from an increased unemployment rate as well as continued declines in home prices. These factors are beginning to affect the upscale markets we serve. Our customers are also affected by further reductions in spending by consumers and businesses. In the quarters ended June 30, 2009, March 31, 2009 and June 30, 2008, our loan loss provision totaled $700 thousand, $1.2 million and $510 thousand, respectively, and net charge-offs totaled $854 thousand, $846 thousand, and $154 thousand in the same periods, respectively. The allowance for loan losses as a percentage of loans totaled 1.11% at June 30, 2009 compared to 1.12% at December 31, 2008. Non-accrual loans totaled $5.9 million, or 0.6%, of the Bank's loan portfolio at June 30, 2009, compared to $6.7 million, or 0.8%, at December 31, 2008.

We have been focusing on improving our core funding mix by generating low cost deposits though our dedicated team of bankers, and those efforts have produced growth of $70.3 million or 8.3% in deposits from 2008 year-end. Core deposit growth has provided valuable liquidity to support our asset growth.

Net interest income of $13.0 million in the quarter ended June 30, 2009 increased $1.1 million, or 9.4%, from the same period last year, and the year-to-date amount for 2009 increased $2.6 million, or 11.4% from the same period last year. The increases reflect growth in interest-earning assets and a reduced cost of funds, partially offset by decreased loan yields in a lower-rate environment. The tax-equivalent net interest margin was 5.13% in the second quarter of 2009 compared to 5.52% in the second quarter of 2008 and 5.15% in the first half of 2009 compared to 5.46% in the first half of 2008. Decreases in the tax-equivalent net interest margin were primarily due to the downward re-pricing of our loan portfolio in a declining rate environment and to a lesser extent, interest foregone on non-accrual loans (representing an eight-basis-point and a seven-basis point impact on the net interest margin in the quarter and the six months ended June 30, 2009, respectively).

Non-interest income totaled $1.3 million in the second quarter of 2009, essentially unchanged from the same period last year. Non-interest income for the first six months of 2008 included a pre-tax non-recurring gain of $457 thousand recorded in the first quarter related to the mandatory redemption of a portion of Bank of Marin's shares in Visa Inc. Excluding this $457 thousand non-recurring gain, non-interest income for the first six months of 2009 is essentially unchanged from the same period last year.

Non-interest expense for the quarter ended June 30, 2009 increased $1.0 million from the previous quarter, or 13.8%, and increased $1.5 million, or 20.4%, from the same quarter last year. Non-interest expense increased $2.0 million, or 14.3%, in the first half of 2009 compared to the same period of 2008. A pre-tax charge of $242 thousand was originally recorded in the fourth quarter of 2007, for the potential obligation to Visa Inc. in connection with certain litigation indemnifications provided to Visa Inc. by Visa member banks, and was reversed in the first quarter of 2008 upon the establishment of an escrow account by Visa Inc. from which to pay the settlement. Excluding the reversal of the $242 thousand litigation liability, non-interest expense in the first half of 2009 increased $1.8 million, or 12.3%, from the same period a year ago. The increases in non-interest expense quarter over year-ago quarter and year-to-date over the same period last year both reflected increases in FDIC insurance related to a significantly higher FDIC premium assessment rate (including a one-time special assessment of 5 basis points on total assets minus Tier 1 capital as of June 30, 2009) and increased deposits levels. The increases also reflect higher personnel costs associated with branch expansion and operational losses, partially offset by lower data processing costs.

We are expanding our franchise with an additional branch to be open in Greenbrae, California in the Fall of 2009.

Critical Accounting Policies

Critical accounting policies are those that are both most important to the portrayal of our financial condition and results of operations and require 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.

Management has determined the following five accounting policies to be critical:
Allowance for Loan Losses, Other-than-temporary Impairment of Investment Securities, Share-Based Payment, Accounting for Income Taxes and Fair Value Measurements.

Allowance for Loan Losses

Allowance for loan losses is based upon estimates of loan losses and is maintained at a level considered adequate to provide for probable losses inherent in the outstanding loan portfolio. The allowance is increased by provisions charged to expense and reduced by net charge-offs. In periodic evaluations of the adequacy of the allowance balance, Management considers our past loan loss experience by type of credit, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral, current economic conditions and other factors. We formally assess the adequacy of the allowance for loan losses on a quarterly basis. These assessments include the periodic re-grading of loans based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment, and other factors as warranted. Loans are initially graded when originated. They are reviewed as they are renewed, when there is a new loan to the same borrower and/or when identified facts demonstrate heightened risk of default. Larger problem loans are monitored continuously. For impaired loans that have risk characteristics that are unique to an individual borrower, formal impairment analysis is performed at least quarterly on a loan-by-loan basis.

Our method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans, an allowance factor for categories of credits, and allowances for changing environmental factors (e.g., portfolio trends, concentration of credit, growth, economic factors). Allowances for identified problem loans are based on specific analysis of individual credits. Loss estimation factors for loan categories are based on analysis of local economic factors applicable to each loan category. Allowances for changing environmental factors are Management's best estimate of the probable impact these changes have had on the loan portfolio as a whole.

Other-than-temporary Impairment of Investment Securities

At each financial statement date, we assess whether declines in the fair value of held-to-maturity and available-for-sale securities below their costs are deemed to be other than temporary. We consider, among other things, (i) the length of time and the extent to which the fair value has been less than cost,
(ii) the financial condition and near-term prospects of the issuer, and (iii) our intent and ability to retain the investment for a period of time sufficient to allow for any anticipated recovery in fair value. Evidence evaluated includes, but is not limited to, the remaining payment terms of the instrument and economic factors that are relevant to the collectability of the instrument, such as: current prepayment speeds, the current financial condition of the issuer(s), industry analyst reports, credit ratings, credit default rates, interest rate trends and the value of any underlying collateral. Credit-related other-than-temporary-impairment results in a charge to earnings and the corresponding establishment of a new cost basis for the security. Non-credit-related other-than-temporary impairment results in a charge to other comprehensive income, net of applicable taxes, and the corresponding establishment of a new cost basis for the security. The other-than-temporary impairment recognized in other comprehensive income for debt securities classified as held-to-maturity is accreted from other comprehensive income to the amortized cost of the debt security over the remaining life of the debt security in a prospective manner on the basis of the amount and timing of future estimated cash flows.

Share-Based Payment

We recognize all share-based payments, including stock options and non-vested restricted common shares, as an expense in the income statement based on the grant-date fair value of the award with a corresponding increase to common stock.

We determine the fair value of stock options at the grant date using the Black-Scholes pricing model that takes into account the stock price at the grant date, the exercise price, the expected dividend yield, stock price volatility and the risk-free interest rate over the expected life of the option. The Black-Scholes model requires the input of highly subjective assumptions, including the expected life of the stock-based award (derived from historical data on employee exercise and post-vesting employment termination behavior) and stock price volatility (based on the historical volatility of the common stock). The estimates used in the model involve inherent uncertainties and the application of Management's judgment. As a result, if other assumptions had been used, our recorded stock-based compensation expense could have been materially different from that reflected in these financial statements. The fair value of non-vested restricted common shares generally equals the stock price at grant date. In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those share-based awards expected to vest. If our actual forfeiture rate is materially different from the estimate, the share-based compensation expense could be materially different.

Accounting for Income Taxes

Income taxes reported in the financial statements are computed based on an asset and liability approach. We recognize the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the expected future tax consequences that have been recognized in the financial statements. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statements and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. We record net deferred tax assets to the extent it is more likely than not that they will be realized. In evaluating our ability to recover the deferred tax assets, Management considers all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies and recent financial operations. In projecting future taxable income, Management develops assumptions including the amount of future state and federal pretax operating income, the reversal of temporary differences, and the implementation of feasible and prudent tax planning strategies. These assumptions require significant judgment about the forecasts of future taxable income and are consistent with the plans and estimates being used to manage the underlying business. Bancorp files consolidated federal and combined state income tax returns.

We recognize the financial statement effect of a tax position when it is more likely than not, based on the technical merits, that the position will be sustained upon examination. For tax positions that meet the more-likely-than-not threshold, we may recognize only the largest amount of tax benefit that is greater than fifty percent likely of being realized upon ultimate settlement with the taxing authority. Management believes that all of our tax positions taken meet the more-likely-than-not recognition threshold. To the extent tax authorities disagree with these tax positions, our effective tax rates could be materially affected in the period of settlement with the taxing authorities.

Fair Value Measurements

We use fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. We base our fair values on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Securities available for sale, derivatives, and loans held for sale, if any, are recorded at fair value on a recurring basis. Additionally, from time to time, we may be required to record at fair value other assets on a non-recurring basis, such as certain impaired loans held for investment and securities held to maturity that are other-than-temporarily impaired. These non-recurring fair value adjustments typically involve application of lower-of-cost or market accounting or write-downs of individual assets.

We have established and documented a process for determining fair value. We maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. Whenever there is no readily available market data, Management uses its best estimate and assumptions in determining fair value, but these estimates involve inherent uncertainties and the application of Management's judgment. As a result, if other assumptions had been used, our recorded earnings or disclosures could have been materially different from those reflected in these financial statements. For detailed information on our use of fair value measurements and our related valuation methodologies, see Note 3 of the Notes to Consolidated Financial Statements in this Form 10-Q.

                             BANK OF MARIN BANCORP

RESULTS OF OPERATIONS

Overview

Highlights of the financial results are presented in the following table:

(dollars in thousands, except
per share data;                             As of and for the three months ended               As of and for the six months ended
                                                                                                   June 30,
unaudited)                         June 30, 2009        March 31, 2009       June 30, 2008             2009         June 30, 2008
For the period:
Net income                        $        3,133      $          3,229     $         3,386     $      6,362       $         6,662
Net income per share
Basic                                       0.61                  0.38                0.66             0.98                  1.30
Diluted                                     0.60                  0.37                0.65             0.97                  1.27
Return on average assets                    1.16 %                1.23 %              1.48 %           1.20 %                1.48 %
Return on average equity                   12.25 %               10.28 %             14.73 %          11.16 %               14.68 %
Common stock dividend payout
ratio                                      22.95 %               36.84 %             21.21 %          28.57 %               21.54 %
Average equity to average asset
ratio                                       9.51 %               12.01 %             10.03 %          10.74 %               10.08 %
Efficiency ratio                           60.11 %               53.81 %             54.14 %          56.99 %               54.01 %
At period end:
Book value per common share       $        19.90      $          19.46     $         18.00     $      19.90       $         18.00
Total assets                      $    1,094,359      $      1,074,828     $       952,539     $  1,094,359       $       952,539
Total loans                       $      909,614      $        921,559     $       799,510     $    909,614       $       799,510
Total deposits                    $      922,605      $        859,449     $       801,220     $    922,605       $       801,220
Loan-to-deposit ratio                       98.6 %               107.2 %              99.8 %           98.6 %                99.8 %

Net Interest Income

Net interest income is the difference between the interest earned on loans, investments and other interest-earning assets and the interest expense on deposits and other interest-bearing liabilities. Net interest income is impacted by changes in general market interest rates and by changes in the amounts and composition of interest-earning assets and interest-bearing liabilities. The table below indicates net interest income, net interest margin, and net interest rate spread for each period presented. Net interest margin is expressed as net interest income divided by average interest-earning assets. Net interest rate spread is the difference between the average rate earned on total interest-earning assets and the average rate incurred on total interest-bearing liabilities. Both of these measures are reported on a taxable-equivalent basis. Net interest margin is the higher of the two because it reflects interest income earned on assets funded with non-interest-bearing sources of funds, which include demand deposits and stockholders' equity.

Interest rate changes can create fluctuations in the net interest margin due to an imbalance in the timing of repricing or maturity of assets or liabilities. We manage interest rate risk exposure with the goal of minimizing the impact of interest rate volatility on net interest margin.

The following table, Distribution of Average Statements of Condition and Analysis of Net Interest Income, compares interest income and interest-earning assets with interest expense and interest-bearing liabilities for the periods presented. The table also indicates net interest income, net interest margin and net interest rate spread for each period presented.