The following discussion presents an overview of the unaudited financial statements for the three and nine months ended September 30, 2009 and 2008 for Capital Bank Corporation (the "Company") and its wholly owned subsidiary, Capital Bank (the "Bank"). This discussion and analysis is intended to provide pertinent information concerning financial condition, results of operations, liquidity, and capital resources for the periods covered and should be read in conjunction with the unaudited financial statements and related footnotes contained in Part I, Item 1 of this report.

Information set forth below contains various forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), which statements represent the Company's judgment concerning the future and are subject to risks and uncertainties that could cause the Company's actual operating results to differ materially. Such forward-looking statements can be identified by the use of forward-looking terminology, such as "may," "will," "expect," "anticipate," "estimate," "believe," or "continue," or the negative thereof or other variations thereof or comparable terminology. The Company cautions that such forward-looking statements are further qualified by important factors that could cause the Company's actual operating results to differ materially from those in the forward-looking statements, as well as the factors set forth in Part II, Item 1A of this report, and the Company's periodic reports and other filings with the Securities and Exchange Commission ("SEC").

Overview

Capital Bank Corporation is a financial holding company incorporated under the laws of North Carolina on August 10, 1998. The Company's primary wholly-owned subsidiary is Capital Bank, a state-chartered banking corporation that was incorporated under the laws of the State of North Carolina on May 30, 1997 and commenced operations on June 20, 1997. As of September 30, 2009, the Company conducted no business other than holding stock in the Bank and its three trusts, Capital Bank Statutory Trust I, II, and III.

Capital Bank is a community bank engaged in the general commercial banking business and operates through four North Carolina regions: Triangle, Sandhills, Triad and Western. As of September 30, 2009, the Bank had assets of approximately $1.73 billion, with gross loans and deposits outstanding of approximately $1.36 billion and $1.39 billion, respectively. Our principal executive office is located at 333 Fayetteville Street, Suite 700, Raleigh, North Carolina 27601, and our telephone number is (919) 645-6400. We operate 32 branch offices in North Carolina: five in Raleigh, four in Asheville, three in Burlington, two in Cary, four in Fayetteville, three in Sanford, and one each in Clayton, Graham, Hickory, Holly Springs, Mebane, Morrisville, Oxford, Pittsboro, Siler City, Wake Forest and Zebulon.

The Bank offers a full range of banking services, including the following:
checking accounts; savings accounts; NOW accounts; money market accounts; certificates of deposit; individual retirement accounts; loans for real estate, construction, businesses, agriculture, personal use, home improvement, automobiles, equity lines of credit, mortgage loans, credit loans, consumer loans, credit cards; safe deposit boxes; bank money orders; internet banking; electronic funds transfer services including wire transfers and remote deposit capture; traveler's checks; and free notary services to all Bank customers. In addition, the Bank provides automated teller machine access to its customers for cash withdrawals through nationwide ATM networks. Through a partnership between the Bank's financial services division and Capital Investment Companies, an unaffiliated Raleigh, North Carolina-based broker-dealer, the Bank also makes available a complete line of uninsured investment products and services.

As a community bank, the Bank's profitability depends primarily upon its levels of net interest income, which is the difference between interest income from interest-earning assets and interest expense on interest-bearing liabilities. When interest-earning assets approximate or exceed interest-bearing liabilities, any positive interest rate spread will generate net interest income.

The Bank's profitability is also affected by its provision for loan losses, noninterest income and other operating expenses. Noninterest income primarily consists of service charges and ATM fees, fees generated from originating mortgage loans, commission income generated from brokerage activity, and the increase in cash surrender value of bank-owned life insurance. Operating expenses primarily consist of compensation and benefits, occupancy related expenses, advertising, data processing and telecommunications, professional fees, FDIC deposit insurance and other noninterest expenses.

As a financial holding company, the Company is subject to the supervision of the Board of Governors of the Federal Reserve System (the "Federal Reserve"). The Company is required to file with the Federal Reserve reports and other information regarding its business operations and the business operations of its subsidiaries. As a North Carolina chartered bank, the Bank is subject to primary supervision, periodic examination and regulation by the North Carolina Commissioner of Banks ("NC Commissioner") and by the Federal Deposit Insurance Corporation ("FDIC"), as its primary federal regulator.

Certain Recent Developments

The Bank is subject to insurance assessments imposed by the FDIC. The FDIC, as a result of recent economic turmoil that has affected the banking industry, is actively seeking to replenish its deposit insurance fund. The FDIC increased risk-based assessment rates uniformly by 7 basis points, on an annual basis, beginning with the first quarter of 2009. On May 22, 2009, the FDIC adopted a final rule imposing a 5 basis point special assessment on each insured depository institution's assets less Tier 1 capital as of June 30, 2009. The FDIC collected this special assessment on September 30, 2009. The Company recorded total expense related to this special assessment of $765 thousand during the nine months ended September 30, 2009.

On September 29, 2009, the FDIC announced its intention to require insured institutions to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for the following three years. Such prepaid assessments would be collected on December 30, 2009 at a rate based on the insured institution's modified third quarter 2009 assessment rate. This announcement had no impact on the Company's financial results for the quarter ended September 30, 2009, and if the prepaid assessment is charged as announced, the cost will be recognized as expense ratably over the three year assessment period.

On October 22, 2009, the Company announced its intention to commence a public offering of approximately $55 million of its common stock, which will be underwritten by Sandler O'Neill + Partners, L.P. as book-running manager and Howe Barnes Hoefer & Arnett as co-manager. The underwriters will have a 30-day option to purchase up to 15% of the initial number of shares offered to cover over-allotments, if any. Proceeds from this public stock offering will be used for general corporate purposes, including to strengthen the capital of the Bank and to support its strategic growth opportunities. The precise amounts and the timing of the Company's use of the net proceeds will depend upon market conditions, the Bank's funding requirements, the availability of other funds and other factors. Management will retain broad discretion in the allocation of net proceeds from the offering.

Critical Accounting Policies and Estimates

The Company's critical accounting policies are described in Note 1 of the Company's Annual Report on Form 10-K for the year ended December 31, 2008. These policies are important in understanding management's discussion and analysis. Some of the Company's accounting policies require the Company to make estimates and judgments regarding uncertainties that may affect the reported amounts of assets, liabilities, revenues and expenses.

The Company has identified four accounting policies as being critical in terms of significant judgments and the extent to which estimates are used: allowance for loan losses, investment impairment, income tax valuation allowances and impairment of long-lived assets. In many cases, there are several alternative judgments that could be used in the estimation process. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. For more information on the Company's critical accounting policies, refer to Part II, Item 7 of the Company's Annual Report on Form 10-K for the year ended December 31, 2008.

Executive Summary

As discussed in more detail below, the following is a summary of our significant results for the three and nine month periods ended September 30, 2009.

• Net interest income increased $2.7 million, or 25.2%, from $10.8 million for the quarter ended September 30, 2008 to $13.6 million for the quarter ended September 30, 2009. This improvement was partially due to an increase in net interest margin from 3.11% for the third quarter of 2008 to 3.41% for the third quarter of 2009, coupled with 13.9% growth in average earning assets. Net interest margin benefited from a significant decline in the cost of interest-bearing liabilities, partially offset by a decrease in loan yields on the Company's prime-based loan portfolio. Net interest income increased $3.2 million, or 9.9%, from $32.7 million for the nine months ended September 30, 2008 to $35.9 million for the nine months ended September 30, 2009. This improvement was primarily due to growth of 12.4% in average earning assets, partially offset by a decrease in net interest margin from 3.18% for the first nine months of 2008 to 3.11% for the first nine months of 2009.

• Provision for loan losses was $3.6 million for the quarter ended September 30, 2009 compared to $760 thousand for the quarter ended September 30, 2008. The increase in the provision was largely driven by deteriorating economic conditions and weakness in the local real estate markets which resulted in downgrades to credit ratings of certain borrowers as well as charge-offs of certain loans in the portfolio, but the provision increase was also partially due to loan growth of $163.1 million from September 30, 2008. Additionally, the decline in real estate values securing certain impaired loans required increased provision. Provision for loan losses was $11.2 million for the nine months ended September 30, 2009 compared to $2.2 million for the nine months ended September 30, 2008. The significant increase in the provision for the year to date period was primarily driven by deteriorating economic conditions and weakness in the local real estate markets.

• Noninterest income decreased $760 thousand, or 23.3%, in the third quarter of 2009 compared to the same period one year ago. This decrease was partially attributable to a nonrecurring gain of $426 thousand recorded on the sale of the Company's Greensboro branch in the third quarter of 2008. Service charge income, which includes overdraft and non-sufficient funds charges, fell by $248 thousand primarily from a decline in consumer spending during the current economic recession. Other loan fees declined by $335 thousand due to a drop in prepayment penalties charged as fewer business loans were prepaid given the current interest rate and economic environment. Noninterest income decreased $417 thousand, or 4.8%, in the first nine months of 2009 compared to the same period one year ago. This decrease was partially attributable to a nonrecurring gain of $426 thousand recorded on the sale of the Company's Greensboro branch in the third quarter of 2008. Nonrecurring gains totaling $934 thousand were recorded from the collection of bank-owned life insurance ("BOLI") policy proceeds during the current year upon the deaths of two former directors. Service charge income, which includes overdraft and non-sufficient funds charges, fell by $562 thousand.

• Noninterest expense increased $581 thousand, from $10.5 million during the third quarter of 2008 to $11.1 million during the third quarter of 2009. This increase included higher FDIC deposit insurance expense of $260 thousand due to increases in assessment rates charged by the FDIC to cover higher monitoring costs and losses from insured financial institutions taken into receivership. Additionally, occupancy expense increased $374 thousand as new branches were opened during the past year in the Triangle region in addition to the four branches purchased in the Fayetteville market during December 2008. Noninterest expense increased $4.8 million, from $30.4 million during the first nine months of 2008 to $35.1 million during the first nine months of 2009. Included in the noninterest expense increase was significantly higher FDIC deposit insurance expense, of which $765 thousand was related to the FDIC's mandatory special assessment collected on September 30, 2009. Salaries and employee benefits as well as occupancy costs increased primarily due to additional costs incurred from branches added to the franchise over the past year.

Results of Operations

Quarter ended September 30, 2009 compared to quarter ended September 30, 2008

The Company reported net income of $3.5 million for the quarter ended September 30, 2009 compared to net income of $2.0 million for the quarter ended September 30, 2008. After dividends and accretion on preferred stock issued under the CPP, net income available to common shareholders was $3.0 million, or $0.26 per diluted share, for the third quarter of 2009 compared with $2.0 million, or $0.18 per diluted share, for the same period one year ago. The third quarter results reflect an improved net interest margin coupled with recognized tax benefits and certain nonrecurring tax refunds, partially offset by a higher loan loss provision, lower noninterest income, and higher noninterest expense.

Net Interest Income. Net interest income increased $2.7 million, or 25.2%, from $10.8 million for the quarter ended September 30, 2008 to $13.6 million for the quarter ended September 30, 2009. Average earning assets increased $198.7 million to $1.63 billion for the quarter ended September 30, 2009 from $1.43 billion for the quarter ended September 30, 2008. Average interest-bearing liabilities increased $128.3 million to $1.41 billion for the quarter ended September 30, 2009 from $1.28 billion for the quarter ended September 30, 2008. The net interest margin on a fully tax equivalent basis increased by 30 basis points to 3.41% for the quarter ended September 30, 2009 from 3.11% for the quarter ended September 30, 2008. The earned yield on average interest-earning assets was 5.43% and 5.90% for the quarters ended September 30, 2009 and 2008, respectively, while the interest rate paid on average interest-bearing liabilities for those periods was 2.33% and 3.12%, respectively. The increase in the margin was primarily due to the significant decline in the cost of customer deposits through disciplined pricing controls and a more favorable competitive pricing landscape. Partially offsetting declining funding costs was a rapid decline in the prime lending rate late in 2008 which contributed to a decrease in loan yields on the Company's prime-based loan portfolio.

The following two tables set forth certain information regarding the Company's yield on interest-earning assets and cost of interest-bearing liabilities and the component changes in net interest income. The first table, Average Balances, Interest Earned or Paid, and Interest Yields/Rates, reflects the Company's effective yield on earning assets and cost of funds. Yields and costs are computed by dividing income or expense for the year by the respective daily average asset or liability balance. Changes in net interest income from year to year can be explained in terms of fluctuations in volume and rate. The second table, Rate and Volume Variance Analysis, presents further information on those changes. For each category of interest-earning asset and interest-bearing liability, we have provided information on changes attributable to:

• changes in volume, which are changes in average volume multiplied by the average rate for the previous period;

• changes in rates, which are changes in average rate multiplied by the average volume for the previous period;

• changes in rate/volume, which are changes in average rate multiplied by the changes in average volume; and

• total change, which is the sum of the previous columns.

CAPITAL BANK CORPORATION
Average Balances, Interest Earned or Paid, and Interest Yields/Rates
For the Three Months Ended September 30, 2009, June 30, 2009 and September 30,
2008 (Unaudited)
Tax Equivalent Basis (1)

                                          September 30, 2009                                    June 30, 2009                                     September 30, 2008
(Dollars in thousands)                           Amount                                              Amount                                              Amount
                            Average Balance      Earned       Average Rate      Average Balance      Earned       Average Rate      Average Balance      Earned       Average Rate
Assets
Loans receivable: (2)
Commercial                 $       1,153,514    $  16,550              5.69 %  $       1,115,003    $  15,244              5.48 %  $       1,018,947    $  15,469              6.02 %
Home equity                           93,651          983              4.16               94,054          974              4.15               84,441        1,133              5.32
Consumer and residential
mortgages                             83,034        1,276              6.15               76,514        1,194              6.24               73,103        1,273              6.97
Total loans                        1,330,199       18,809              5.61            1,285,571       17,412              5.43            1,176,491       17,875              6.03
Investment securities
(3)                                  263,513        3,512              5.33              278,033        3,731              5.37              250,896        3,452              5.50
Federal funds sold and
interest-earning cash
(4)                                   38,995           18              0.18               24,898            6              0.10                6,654           15              0.89
Total interest-earning
assets                             1,632,707    $  22,339              5.43 %          1,588,502    $  21,149              5.34 %          1,434,041    $  21,342              5.90 %
Cash and due from banks                8,256                                              15,294                                              22,517
Other assets                          83,589                                              80,296                                             132,304
Allowance for loan
losses                               (19,262 )                                           (18,705 )                                           (14,052 )
Total assets               $       1,705,290                                   $       1,665,387                                   $       1,574,810

Liabilities and Equity
Savings deposits           $          29,267    $      11              0.15 %  $          29,609    $      13              0.18 %  $          30,169    $      30              0.39 %
Interest-bearing demand
deposits                             366,632        1,095              1.18              368,132        1,152              1.26              342,575        1,802              2.09
Time deposits                        845,311        5,691              2.67              796,306        5,868              2.96              679,162        6,005              3.51
Total interest-bearing
deposits                           1,241,210        6,797              2.17            1,194,047        7,033              2.36            1,051,906        7,837              2.96
Borrowed funds                       130,098        1,260              3.84              140,682        1,273              3.63              174,735        1,786              4.06
Subordinated debt                     30,930          240              3.08               30,930          278              3.61               30,930          407              5.22
Repurchase agreements
and fed funds purchased               10,646            6              0.22               12,010            7              0.23               27,039           74              1.09
Total interest-bearing
liabilities                        1,412,884    $   8,303              2.33 %          1,377,669    $   8,591              2.50 %          1,284,610    $  10,104              3.12 %
Noninterest-bearing
deposits                             134,721                                             130,460                                             112,456
Other liabilities                     12,198                                              12,042                                              11,174
Total liabilities                  1,559,803                                           1,520,171                                           1,408,240
Shareholders' equity                 145,487                                             145,216                                             166,570
Total liabilities and
shareholders' equity       $       1,705,290                                   $       1,665,387                                   $       1,574,810

Net interest spread (5)                                                3.10 %                                              2.84 %                                              2.78 %
Tax equivalent
adjustment                                      $     481                                           $     394                                           $     411
Net interest income and
net interest margin (6)                         $  14,036              3.41 %                       $  12,558              3.17 %                       $  11,238              3.11 %

(1) The tax equivalent basis is computed using a federal tax rate of 34%.
(2) Loans receivable include nonaccrual loans for which accrual of interest has not been recorded.
(3) The average balance for investment securities excludes the effect of their mark-to-market adjustment, if any.
(4) For comparison purposes, average balances have been adjusted for all periods presented to include cash held at the Federal Reserve as interest earning.
(5) Net interest spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities.
(6) Net interest margin represents net interest income divided by average interest-earning assets.

Rate and Volume Variance Analysis (Unaudited)
Tax Equivalent Basis 1
                                                         Three Months Ended September 30, 2009 vs. 2008
(Dollars in thousands)                                      Rate             Volume             Total
                                                          Variance          Variance          Variance
Interest income:
Loans receivable                                         $    (1,246 )   $         2,180     $       934
Investment securities                                           (108 )               168              60
Federal funds sold                                               (12 )                15               3
Total interest income                                         (1,366 )             2,363             997
Interest expense:
Savings and interest-bearing demand deposits and other          (798 )                72            (726 )
Time deposits                                                 (1,433 )             1,119            (314 )
Borrowed funds                                                   (94 )              (432 )          (526 )
Subordinated debt                                               (167 )                 -            (167 )
Repurchase agreements and fed funds purchased                    (59 )                (9 )           (68 )
Total interest expense                                        (2,551 )               750          (1,801 )
Increase in net interest income                          $     1,185     $         1,613     $     2,798

. . .