The Company

The Company is a savings and loan holding company chartered as a corporation in the state of Maryland, and is headquartered in Annapolis, Maryland. It conducts business through three subsidiaries: the Bank, a federal savings bank, which is the Company's principal subsidiary; Louis Hyatt, Inc., doing business as Hyatt Commercial, a commercial real estate brokerage and property management company; and SBI Mortgage Company, which holds mortgages that do not meet the underwriting criteria of the Bank, and is the parent company of Crownsville Development Corporation, doing business as Annapolis Equity Group, which acquires real estate for syndication and investment purposes. The Bank has four branches in Anne Arundel County, Maryland, which offer a full range of deposit products. The Bank originates loans in its primary market of Anne Arundel County, Maryland and, to a lesser extent, in other parts of Maryland, Delaware and Virginia. The Company's common stock trades under the symbol "SVBI" on the Nasdaq Capital Market.

Bank Competition

The Annapolis, Maryland area has a high density of financial institutions, many of which are significantly larger and have greater financial resources than the Bank, and all of which are competitors of the Bank to varying degrees. The Bank's competition for loans comes primarily from savings and loan associations, savings banks, mortgage banking companies, insurance companies and commercial banks. Its most direct competition for deposits has historically come from savings and loan associations, savings banks, commercial banks and credit unions. The Bank faces additional competition for deposits from money market mutual funds and corporate and government securities funds and investments. The Bank also faces increased competition for deposits from other financial institutions such as brokerage firms and insurance companies. The Bank is a community-oriented financial institution serving its market area with a wide selection of mortgage loan products. Management considers the Bank's reputation for financial strength and customer service to be a major competitive advantage in attracting and retaining customers in its market area. The Bank also believes it benefits from its community orientation.

Forward Looking Statements

In addition to the historical information contained herein, the discussion in this report contains forward-looking statements that involve risks and uncertainties and may be affected by various factors that may cause actual results to differ materially from those in the forward-looking statements. The forward-looking statements contained herein include, but are not limited to, those with respect to the Bank's strategy; management's determination of the amount of the loan loss allowance; the effect of changes in interest rates; changes in deposit insurance premiums; ability to meet obligations; and legal proceedings. The words "anticipate," "believe," "estimate," "expect," "intend," "may," "plan," "will," "would," "could," "should," "guidance," "potential," "continue," "project," "forecast," "confident," and similar expressions are typically used to identify forward-looking statements. The Company's operations and actual results could differ significantly from those discussed in the forward-looking statements. Some of the factors that could cause or contribute to such differences include, but are not limited to, the success of the Bank's strategy; changes in the economy and interest rates both in the nation and Company's general market area; federal and state regulation; and competition and other factors detailed from time to time in the Company's filings with the Securities and Exchange Commission (the "SEC"), including "Item 1A. Risk Factors" contained in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2008.

Critical Accounting Policies

The Company's significant accounting policies are set forth in Note 1 of the audited consolidated financial statements as of December 31, 2008 which were included in the Company's Annual Report on Form 10-K. Of these significant accounting policies, the Company considers its policy regarding the allowance for loan losses to be its most critical accounting policy, because it requires management's most subjective and complex judgments. In addition, changes in economic conditions can have a significant impact on the allowance for loan losses and therefore on the provision for loan losses and results of operations. The Company has developed policies and procedures for assessing the adequacy of the allowance for loan losses, recognizing that this process requires a number of assumptions and estimates with respect to its loan portfolio. See Note 5 for discussion of changes in the methods used by management to estimate the allowance for loan losses. The Company's assessments may be impacted in future periods by changes in economic conditions, the impact of regulatory examinations, and the discovery of information with respect to borrowers that is not known to management at the time of the issuance of the consolidated financial statements.

Overview

The Company provides a wide range of retail and commercial banking services. Deposit services include checking, individual retirement accounts, money market, savings and time deposit accounts. Loan services include various types of commercial, consumer, and real estate lending. The Company also provides ATMs, corporate cash management services, debit cards, Internet banking including on-line bill pay, mortgage lending, safe deposit boxes, and telephone banking, among other products and services.

The Company continues to experience challenges similarly faced by many financial institutions resulting from the slowdown in the financial and real estate markets, including increased loan delinquencies and a decrease in the demand for certain loan products including mortgage, construction, development, and land acquisition loans. Continued declines in real estate values, home sales volumes and financial stress on borrowers as a result of the uncertain economic environment, including job losses and other factors, have adversely affected our borrowers. In addition, beginning in the three month period ended June 30, 2009, management changed the method it used to estimate its allowance for loan losses based on a request of its primary regulator (see Note 5 to the Consolidated Financial Statements). This change in estimate resulted in an additional charge to the loan loss reserve of approximately $5,000,000 for the three months ended June 30, 2009. This increase, plus additional reserves taken due to the continued economic recession resulted in a total increase in the allowance for loan losses of approximately $12,500,000 in the quarter ended June 30, 2009 compared to $750,000 for the quarter ended June 30, 2008. Also, strong competition for new loans and deposits has caused the interest rate spread between the Company's cost of funds and what it earns on loans to decrease from 2008 levels. This was primarily due to an increase in non-accrual loans, and to decreases in interest rates earned on loans outpacing the decreases in interest paid on deposits and other borrowings. The Company's net loan portfolio has decreased $32,465,000, or 3.6%, to $863,541,000 at June 30, 2009, compared to $896,006,000 at December 31, 2008.

The Company has experienced an increase in delinquent loans and has increased its provision for loan losses from 2008 levels accordingly. The Company believes that the allowance for loan losses was adequate at June 30, 2009.

The Company will be challenged to grow its loan portfolio in the current economic downturn. In addition to the challenges faced with the current economy, the Company may also experience less loan demand if interest rates rise. The Company will continue to manage loan and deposit pricing against the risks of rising costs of its deposits and borrowings.

The Company's success continues to be dependent on the strength of the markets in which it operates, including the Company's ability to originate and grow its mortgage loans, as well as its continuing ability to maintain comparatively low overhead costs.

If the volatility in the market and the economy continues or worsens, the Company's business, financial condition, results of operations, access to funds and the price of our stock could be materially and adversely impacted.

Results of Operations

Net income decreased by $8,494,000, or 524.0%, to a net loss of $6,873,000 for the second quarter of 2009, compared to net income of $1,621,000 for the second quarter of 2008. Basic and diluted earnings (loss) per share decreased by $.89, or 556.3%, to ($.73) for the second quarter of 2009 compared to $.16 for the second quarter of 2008. Net income decreased by $11,974,000, or 318.8%, to a net loss of $8,218,000 for the six months ended June 30, 2009, compared to net income of $3,756,000 for the same period in 2008. Basic and diluted earnings
(loss) per share decreased by $1.27, or 343.2% to ($.90) for the six months ended June 30, 2009 compared to $.37 for the same period in 2008. The decrease in net income (loss) and basic and diluted earnings (loss) per share over last year was primarily the result of management's decision to increase the allowance for loan loss by approximately $17,000,000 for the six months ended June 30, 2009 compared to $1,500,000 for the six months ended June 30, 2008. In addition, the Company's interest rate spread decreased by 0.64%, to 2.37% for the six months ended June 30, 2009, compared to 3.01% for the same period in 2008. The interest rate spread is the difference between the Company's cost of funds and yield on earning assets.

Net interest income, which is interest earned net of interest expense, decreased by $1,382,000, or 18.7%, to $5,996,000 for the second quarter of 2009, compared to $7,378,000 for the second quarter of 2008. Net interest income decreased by $2,894,000, or 18.9%, to $12,401,000 for the six months ended June 30, 2009, compared to $15,295,000 for the same period in 2008. The primary reasons for the decrease in net interest income was an increase in non-accrual loans, and that the interest rates earned on the Company's loan portfolio have decreased faster than the interest rates paid on the Company's interest bearing liabilities. Net interest margin for the six months ended June 30, 2009 was 2.69%, compared to 3.35% for the same period in 2008. In addition, other interest income was a negative $25,000 for the six months ended June 30, 2009 primarily due to a reversal of an accrual made for a FHLB Atlanta dividend that was not received.

The provision for loan losses increased by $11,751,000, or 1,566.8%, to $12,501,000 for the second quarter of 2009, compared to $750,000 for the second quarter of 2008. The provision for loan losses for the six months ended June 30, 2009 increased by $15,535,000, or 1,035.7%, to $17,035,000, compared to $1,500,000 for the same period in 2008. The provision for loan losses and allowance for loan losses are based on management's judgment and evaluation of the loan portfolio. Beginning in the three month period ended June 30, 2009, management changed the method it used to estimate its allowance for loan losses based on a request of its primary regulator (see Note 5 to the Consolidated Financial Statements). This change in estimate resulted in an additional charge to the allowance for loan losses of approximately $5,000,000 for the three months ended June 30, 2009. This increase, plus an additional provision taken due to the continued economic recession resulted in a total increase in the allowance for loan losses of approximately $12,500,000 for the quarter ended June 30, 2009 compared to $750,000 for the quarter ended June 30, 2008. Management assesses the adequacy of the allowance for loan losses and the need for any addition thereto, by considering the nature and size of the loan portfolio, overall portfolio quality, review of specific problem loans, economic conditions that may affect the borrowers' ability to pay or the value of property securing loans, and other relevant factors. While management believes the current allowance for loan losses is adequate, changing economic and other conditions may require future adjustments to the allowance for loan losses. For additional discussion, see "Asset Quality" below.

Total non-interest income decreased by $123,000, or 14.4%, to $729,000 for the second quarter of 2009, compared to $852,000 for the second quarter of 2008. The primary reason for the decrease in non-interest income was a decrease in real estate commissions by Hyatt Commercial from the sale and lease of commercial property. Real estate commissions decreased $109,000, or 36.1%, to $193,000 for the second quarter of 2009, compared to $302,000 for the second quarter of 2008. Total non-interest income decreased by $27,000, or 2.0%, to $1,345,000 for the six months ended June 30, 2009, compared to $1,372,000 for the same period in 2008. The primary reason for the decrease during the first six months of 2009, compared to the first six months of 2008 was a decrease in mortgage banking activity. Mortgage banking activity decreased $85,000, or 29.4%, to $204,000 for the six months ended June 30, 2009, compared to $289,000 for the same period in 2008. The primary reason for this decline was the decision to stop operations at Homeowners' Title in August 2008, which resulted in fewer fees earned by the Company.

Total non-interest expenses increased by $974,000, or 20.6%, to $5,708,000 for the second quarter of 2009, compared to $4,734,000 for the second quarter of 2008. Total non-interest expenses increased by $1,434,000, or 16.3%, to $10,254,000 for the six months ended June 30, 2009, compared to $8,820,000 for the same period in 2008. Compensation and related expenses decreased by $147,000, or 5.9%, to $2,340,000 for the second quarter of 2009, compared to $2,487,000 for the same period in 2008. Total compensation and related expenses decreased by $89,000, or 1.9%, to $4,664,000 for the six months ended June 30, 2009 compared to $4,753,000 for the same period in 2008. This decrease was primarily because of lower real estate commissions and health insurance paid by the Bank, partially offset by an increase in salary expense. Net occupancy costs decreased by $72,000, or 17.7%, to $335,000 for the second quarter of 2009, compared to $407,000 for the second quarter of 2008. Net occupancy costs decreased by $174,000, or 21.3%, to $642,000 for the six months ended June 30, 2009, compared to $816,000 for the same period in 2008. This decrease was the result of a decrease in net rents, utilities and depreciation expenses at its headquarters. Foreclosed real estate expenses, net increased by $771,000, or 286.6%, to $1,040,000 for the second quarter of 2009, compared to $269,000 for the same period in 2008. Foreclosed real estate expenses, net increased by $1,272,000, or 322.8%, to $1,666,000 for the six months ended June 30, 2009, compared to $394,000 for the same period in 2008. This increase was the result of additional foreclosure expenses incurred due to the economic environment and the increase in loan foreclosures experienced by the Company. Legal fees increased by $167,000, or 192.0%, to $254,000 for the second quarter of 2009, compared to $87,000 for the same period in 2008. Legal fees increased by $187,000, or 79.2%, to $423,000 for the six months ended June 30, 2009, compared to $236,000 for the same period in 2008. This increase is the result of increased legal activity relating to loan delinquencies. Other non-interest expense increased by $255,000, or 17.2%, to $1,739,000 for the second quarter of 2009, compared to $1,484,000 for the same period in 2008. Other non-interest expense increased by $238,000, or 9.1%, to $2,859,000 for the six months ended June 30, 2009, compared to $2,621,000 for the same period in 2008. The FDIC issued a one time special assessment in June 2009, to help replenish the deposit insurance fund due to the number of recent bank closures. The Company's portion of this special assessment was $431,000. Without this assessment, other non-interest expenses would have decreased 7.4% or $193,000 to $2,428,000 for the six months ended June 30, 2009 compared to $2,621,000 for the same period in 2008.

Income Taxes

The income tax provision decreased by $5,736,000, or 509.9%, to a tax benefit of $4,611,000 for the second quarter of 2009, compared to a tax expense of $1,125,000 for the second quarter of 2008. The income tax provision for the first six months of 2009 decreased by $7,916,000, or 305.5%, to a tax benefit of $5,325,000, compared to a tax expense of $2,591,000 for the first six months of 2008. The decrease is consistent with the decrease in pretax income (loss). The effective tax rate for the six months ended June 30, 2009 was (39.3%) compared to 40.8% for the same period in 2008. The change in the effective tax rate was primarily due to a valuation allowance placed on a portion of the deferred tax asset resulting from current state operating loss carryforwards.

Analysis of Financial Condition

Total assets increased $14,342,000, or 1.5%, to $1,001,993,000 at June 30, 2009, compared to $987,651,000 at December 31, 2008. Cash and cash equivalents increased by $34,420,000, or 106.5%, to $66,725,000 at June 30, 2009, compared to $32,305,000 at December 31, 2008. This increase was primarily in federal funds sold and correspondent bank balances. The loan portfolio decreased, as net loans receivable decreased $32,465,000, or 3.6%, to $863,541,000 at June 30, 2009, compared to $896,006,000 at December 31, 2008. This decrease was the result of the continued general slowdown in loan demand during the first six months of 2009 as well as the increase in the allowance for loan losses. Loans held for sale increased $3,471,000, or 766.2%, to $3,924,000 at June 30, 2009, compared to $453,000 at December 31, 2008. This increase was primarily due to the timing of loans pending sale as of June 30, 2009. Total deposits increased $28,518,000, or 4.2%, to $712,384,000 at June 30, 2009 compared to $683,866,000 at December 31, 2008. This increase was primarily attributable to the popularity of Safe Harbor savings accounts. FHLB Atlanta borrowings decreased $7,000,000, or 4.6%, to $146,000,000 at June 30, 2009, compared to $153,000,000 as of December 31, 2008. This was a result of paying off long-term FHLB Atlanta advances at maturity with proceeds received upon payoff of loans held by the Company.

Stockholders' Equity

Total stockholders' equity decreased $9,464,000, or 7.7%, to $114,203,000 at June 30, 2009 compared to $123,667,000 as of December 31, 2008. This decrease was primarily a result of the net loss for the first six months, and the dividends paid to its common and preferred stockholders.

Asset Quality

Non-performing assets consist of non-accrual loans, restructured loans, and other real estate owned (foreclosed properties). Loans are placed in non-accrual status, when in the opinion of management, the collection of additional interest is unlikely or a specific loan meets the criteria for non-accrual status established by regulatory authorities (those loans 90 or more days in arrears). No interest is taken into income on non-accrual loans. A loan remains on non-accrual status until the loan is current as to both principal and interest and collectability is reasonably assured.

Foreclosed real estate includes properties that have been repossessed or acquired in complete or partial satisfaction of debt. Such properties, which are held for resale, are carried at fair value, less a reduction for the estimated selling expenses.

The following table presents the Company's non-performing assets as of June 30, 2009 and December 31, 2008 (dollars in thousands):

                             June 30,                             December
                               2009         Number of loans       31, 2008        Number of loans

Loans accounted for on a
non-accrual basis:
Mortgage loans:
  Residential - consumer    $   46,578                    88     $    30,769                    73
  Residential - builder         23,291                    52          20,970                    45
  Commercial                     5,685                     8           3,047                    11
Non-mortgage loans:
  Consumer                          13                     4               9                     2
  Commercial loans               1,940                     5               -                     -
Total non-accrual loans     $   77,507                   157     $    54,795                   131
Accruing loans greater
than 90 days past due       $        -                           $         -
Foreclosed real-estate      $    8,116                           $     6,317
Total non-performing
assets                      $   85,623                           $    61,112
Total troubled debt
restructurings              $   27,699                    44     $     2,142                     3
Total non-accrual loans
to net loans                       9.0 %                                 6.1 %
Allowance for loan losses   $   28,931                           $    14,813
Allowance to total loans           3.2 %                                 1.6 %
Allowance for loan losses
to total non-performing
loans,
  including loans
contractually past due 90
days or more                      37.3 %                                27.0 %
Total non-accrual and
accruing loans greater
than
  90 days past due to
total assets                       7.7 %                                 5.5 %
Total non-performing
assets to total assets             8.5 %                                 6.2 %

The allowance for loan losses is based on management's judgment and evaluation of the loan portfolio. Management assesses the adequacy of the allowance for loan losses and the need for any addition thereto, by considering the nature and size of the loan portfolio, overall portfolio quality, review of specific problem loans, economic conditions that may affect the borrowers' ability to pay or the value of property securing loans, and other relevant factors. While management believes the current allowance is adequate, changing economic and market conditions may require future adjustments to the allowance for loan losses.

The following table summarizes the change in impaired loans for the six months ended June 30, 2009 (dollars in thousands):

          Impaired loans at December 31, 2008                  $69,836
           Added to impaired loans                              71,510
           Gross loans transferred to foreclosed real estate   (9,244)
           Paid off prior to foreclosure                      (10,781)
          Impaired loans at June 30, 2009                     $121,321

Included in the above impaired loans amount at June 30, 2009 was $43,814,000 of loans that were not in non-accrual status. In addition, there was a total of $75,394,000 of residential real estate loans included in impaired loans at June 30, 2009, of which $54,357,000 were to consumers and $21,037,000 were to builders. Impaired loans are individually reviewed by management to determine their estimated fair value, and a specific reserve is established, if necessary, for the difference between the original carrying value of any loan and its estimated fair value.

As of June 30, 2009, the Company had foreclosed real estate consisting of 29 residential properties with a carrying value of $8,116,000. During the six month period ended June 30, 2009, the Company sold 12 properties previously included in foreclosed real estate. The following table summarizes the changes in foreclosed real estate for the six months ended June 30, 2009 (dollars in thousands):

    Foreclosed real estate at December 31, 2008                      $ 6,317
     Transferred from impaired loans, net of charge-offs of $1,819     7,425
     Property improvements                                                51
     Property sold                                                   (4,270)
     Additional write downs                                          (1,407)
    Foreclosed real estate at June 30, 2009                          $ 8,116

Liquidity

The Company's liquidity is determined by its ability to raise funds through several sources including borrowed funds, capital, deposits, loan repayments, maturing investments, and the sale of loans. Based on the internal and external sources available, the Company's liquidity position exceeded anticipated short-term and long-term needs as of June 30, 2009. Additionally, loan payments, maturities, deposit growth and earnings contribute a flow of funds available to meet liquidity requirements.

In assessing its liquidity, the management of the Company considers operating requirements, anticipated deposit flows, expected funding of loans, deposit maturities and borrowing availability, so that sufficient funds may be available on short notice to meet obligations as they arise so that the Company may take advantage of business opportunities.

Management believes it has sufficient cash flow and liquidity to meet its current commitments through the next 12 months. Certificates of deposit, which are scheduled to mature in less than one year, totaled $407,849,000 at June 30, 2009. Based on past experience, management believes that a significant portion of such deposits will remain with the Company. At June 30, 2009, the Company had commitments to originate loans of $23,119,000, unused lines of credit of $28,117,000, and commitments under standby letters of credit of $11,485,000. The Company has the ability to reduce its commitments for new loan originations, adjust other cash outflows, and borrow from FHLB Atlanta should the need arise. As of June 30, 2009, outstanding FHLB Atlanta borrowings totaled $146,000,000, and the Company had available to it an additional $144,100,000 in borrowing availability from FHLB Atlanta.

Net cash provided by operating activities decreased $3,360,000 to $898,000 for the six months ended June 30, 2009, compared to $4,258,000 for the same period in 2008. This decrease was primarily the result of a net loss, higher loans originated for sale to others and an increase in deferred tax assets, partially offset by the increase in the provision for loan losses in 2009. Net cash provided by investing activities increased $102,000 to $13,313,000 for the six months ended June 30, 2009, compared to $13,211,000 for the same period in 2008. This increase was primarily due to higher cash proceeds from the sale of foreclosed real estate during the six months ended June 30, 2009, compared to the same period in 2008. In financing activities, net cash increased by $28,314,000 to $20,209,000 provided by financing activities for the six months ended June 30, 2009, compared to $8,105,000 used in financing activity for the same period in 2008. This increase was primarily due to an increase in deposits during the six months ended June 30, 2009, compared to the same period in 2008, and lower repayments of FHLB Atlanta borrowings in 2009.

Federal Home Loan Bank of Atlanta Line of Credit

The Bank has an available line of credit, secured by various loans in its . . .