Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

General

Jacksonville Bancorp, Inc. ("Bancorp") was incorporated on October 24, 1997 and was organized to conduct the operations of The Jacksonville Bank (the "Bank"). The Bank is a Florida state-chartered commercial bank that opened for business on May 28, 1999, and its deposits are insured by the Federal Deposit Insurance Corporation ("FDIC"). The Bank provides a variety of community banking services to businesses and individuals in the greater Jacksonville area of Northeast Florida. During 2000, the Bank formed Fountain Financial, Inc., a wholly owned subsidiary. The primary business activities of Fountain Financial, Inc. consist of referral of the Bank's customers to third parties for the sale of insurance products. Bancorp, the Bank, and Fountain Financial, Inc. are collectively referred to herein as the "Company."

Forward-Looking Statements

All statements, other than statements of historical facts, included in this Quarterly Report on Form 10-Q regarding our estimates, expectations, beliefs, intentions, projections or strategies for the future, results of operations, financial position, prospects and plans and objectives of management for future operations may be "forward-looking statements" as defined in the Private Securities Litigation Reform Act of 1995, as amended. We have based these forward-looking statements on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy, short- and long-term business operations and objectives and financial needs. These forward-looking statements can be identified by the use of terms and phrases such as "believe," "plan," "intend," "anticipate," "target," "estimate," "expect," and the like, and/or future-tense or conditional constructions ("will," "may," "could," "should," etc.). Items contemplating or making assumptions about actual or potential future operating results also constitute forward-looking statements. The Company cautions that these forward-looking statements are subject to numerous assumptions, risks and uncertainties, including our ability to raise additional capital, future economic, business and market conditions, legislative and regulatory changes, fluctuations in interest rates, our ability to minimize credit risk and nonperforming assets, demand for products, and competition, and, therefore, actual results could differ materially from those contemplated by the forward-looking statements. In addition, the Company assumes no duty to update forward-looking statements to reflect events or circumstances after the date of such statements.

Business Strategy

Our primary business segment is community banking and consists of attracting deposits from the general public and using such deposits and other sources of funds to originate commercial business loans, commercial real estate loans, residential mortgage loans and a variety of consumer loans. We also invest in securities backed by the United States government, and agencies thereof, as well as municipal tax-exempt and corporate bonds. Our profitability depends primarily on our net interest income, which is the difference between the income we receive from our loan and securities investment portfolios and costs incurred on our deposits, the Federal Home Loan Bank ("FHLB") advances, Federal Reserve borrowings and other sources of funding. Net interest income is also affected by the relative amounts of interest-earning assets and interest-bearing liabilities. Net interest income is generated as the relative amounts of interest-earning assets grow in relation to the relative amounts of interest-bearing liabilities. In addition, the level of noninterest income earned and noninterest expenses incurred also affects profitability. Included in noninterest income are service charges earned on deposit accounts and increases in cash surrender value of Bank-Owned Life Insurance ("BOLI"). Included in noninterest expense are costs incurred for salaries and employee benefits, occupancy and equipment expenses, data processing expenses, marketing and advertising expenses, federal deposit insurance premiums, legal and professional fees, and other real estate owned ("OREO") expenses.

Our goal is to focus on increasing our loan and deposit market share in the Northeast Florida market by developing new financial products, services and delivery channels; closely managing yields on interest-earning assets and rates on interest-bearing liabilities; focusing on noninterest income opportunities; controlling the growth of noninterest expenses; and strengthening asset quality. During the second quarter of 2012, the Company adopted a new overall strategy to accelerate the disposition of substandard assets on an individual customer basis. Certain current appraised values were discounted to estimated fair value based on current market data such as recent sales of similar properties, discussions with potential buyers and negotiations with existing customers. This has materially impacted the Company's earnings for the three- and six-month periods ended June 30, 2012 through the increased provision for loan losses. The Company expects to continue this new strategy for the foreseeable future. In addition, the Company has executed a financial advisory agreement with an investment banking firm (the "Firm"). Under the agreement, the Firm has agreed to work with Company management to assist in raising capital as well as advising the Company on reducing classified assets.

Our operations are influenced by local economic conditions and by policies of financial institution regulatory authorities. Fluctuations in interest rates, due to factors such as competing financial institutions as well as fiscal policy and the Federal Reserve's decisions on monetary policies, including interest rate targets, impact interest-earning assets and our cost of funds and, thus, our net interest margin. In addition, the local economy and real estate market of Northeast Florida, and the demand for our products and loans, impact our margin. The local economy and viability of local businesses can also impact the ability of our customers to make payments on loans, thus impacting our loan portfolio. The Company evaluates these factors when valuing its allowance for loan losses. The Company also believes its underwriting procedures are relatively conservative and, as a result, the Company is not being any more affected than the overall market in the current economic downturn. The Bank has adopted a philosophy of seeking and retaining the best available personnel for positions of responsibility, whom we believe will provide us with a competitive edge in the local banking industry.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (Cont.)

Critical Accounting Policies

A critical accounting policy is one that is both very important to the portrayal of the Company's financial condition and requires management's most difficult, subjective or complex judgments. The circumstances that make these judgments difficult, subjective or complex have to do with the need to make estimates about the effect of matters that are inherently uncertain. Based on this definition, the Company's primary critical accounting policies are as follows:

Allowance for Loan Loss

The allowance for loan loss is established through a provision for loan loss charged to expense. Loans are charged against the allowance for loan loss when management believes that the collectability of the principal is unlikely. The allowance is an amount that management believes will be adequate to absorb probable incurred credit losses on existing loans that may become uncollectible based on evaluations of the collectability of the loans. The evaluations take into consideration such objective factors as changes in the nature and volume of the loan portfolio and historical loss experience. The evaluation also considers certain subjective factors such as overall portfolio quality, review of specific problem loans and current economic conditions that may affect the borrowers' ability to pay. The level of allowance for loan loss is also impacted by increases and decreases in loans outstanding, because either more or less allowance is required as the amount of the Company's credit exposure changes. To the extent actual loan losses differ materially from management's estimate of these subjective factors, loan growth/run-off accelerates, or the mix of loan types changes, the level of provision for loan loss, and related allowance can, and will, fluctuate.

Other Real Estate Owned ("OREO")

OREO includes real estate acquired through foreclosure or deed taken in lieu of foreclosure. These amounts are recorded at estimated fair value (based on current appraised value), less costs to sell the property, with any difference between the fair value of the property and the carrying value of the loan being charged to the allowance for loan losses. Subsequent changes in fair value are reported as adjustments to the carrying amount. Those subsequent changes, as well as any gains or losses recognized on the sale of these properties, are included in noninterest expense.

Deferred Income Taxes

Our net deferred income tax asset arises from differences in the dates that items of income and expense enter into our reported income and taxable income. From an accounting standpoint, deferred tax assets are reviewed to determine if a valuation allowance is required based on both positive and negative evidence currently available. Based on these criteria, the Company determined that it was necessary to establish a full valuation allowance against our deferred tax asset at December 31, 2011. The Company performed an analysis at June 30, 2012 and determined the need for a valuation allowance still existed. To the extent that we generate taxable income in a given quarter, the valuation allowance may be reduced to fully or partially offset the corresponding income tax expense. Any remaining deferred tax asset valuation allowance may be reversed through income tax expense once the Company can demonstrate a sustainable return to profitability and conclude that it is more-likely-than-not the deferred tax asset will be utilized prior to expiration.

Goodwill and Other Intangible Assets

Goodwill resulting from business combinations is generally determined as the excess of the fair value of the consideration transferred, plus the fair value of any non-controlling interests in the acquiree, over the fair value of the net assets acquired and liabilities assumed as of the acquisition date. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but tested for impairment at least annually. Intangible assets with definite useful lives are amortized over their estimated useful lives to their estimated residual values. Impairment exists when the carrying value of goodwill exceeds its fair value, which is determined through a two-step impairment test. Step 1 includes the determination of the carrying value of the reporting unit, including the existing goodwill and intangible assets, and estimating the fair value. If the carrying amount exceeds its fair value, we are required to perform a second step to the impairment test.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (Cont.)

An impairment analysis as of December 31, 2011 determined that as a result of our net loss as of December 31, 2011, largely due to the recording of an additional provision for loan losses and a full valuation allowance on our deferred tax asset, there was a goodwill impairment of $11.2 million, leaving a balance of $3.1 million. If, for any future period, we determine that there has been additional impairment in the carrying value of our goodwill balance, we will record a charge to our earnings, which could have a material adverse effect on our net income.

Additional information with regard to the Company's methodology and reporting of its critical accounting policies is included in the Company's Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the SEC on March 30, 2012.

Introduction

On the following pages, management presents an analysis of the financial condition of the Company as of June 30, 2012 compared to December 31, 2011, and the results of operations for the three and six months ended June 30, 2012 compared with the same periods in 2011. This discussion is designed to provide a more comprehensive review of the operating results and financial position than could be obtained from an examination of the financial statements alone. This analysis should be read in conjunction with the interim financial statements and related footnotes included herein, and the Company's audited financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the SEC on March 30, 2012.

Comparison of Financial Condition at June 30, 2012 and December 31, 2011

Total assets increased $21.5 million, or 3.8%, from $561.4 million at December 31, 2011 to $583.0 million at June 30, 2012. As the primary driver of the increase in assets, the Company experienced a significant increase in securities available for sale, of $25.3 million, or 40.0%, and cash of $15.7, million or 158.2%, during the six months ended June 30, 2012. The increase was offset primarily by a reduction in net loans of $17.0 million, or 3.8%, in the first half of 2012.

Total cash and cash equivalents increased by $15.7 million, or 158.2%, from $10.0 million at December 31, 2011 to $25.7 million at June 30, 2012. Investment securities available-for-sale increased $25.3 million to $88.4 million at June 30, 2012. During the six months ended June 30, 2012, we purchased $20.8 million in GNMA and FNMA securities, $6.0 million in SBA bonds, $2.0 million in agency securities and $1.0 million in corporate bonds. In addition, we received $6.0 million in proceeds from principal repayments, maturities and calls.

Total deposits increased $47.6 million, or 10.1%, from $473.9 million at December 31, 2011 to $521.5 million at June 30, 2012. During the six months ended June 30, 2012, noninterest-bearing demand deposits increased $10.5 million, or 12.7%, from $82.9 million at December 31, 2011 to $93.4 million at June 30, 2012; money market, NOW and savings deposits increased $8.7 million, or 4.0%, from $199.1 million at December 31, 2011 to $207.7 million at June 30, 2012; and time deposits increased $28.4 million, or 14.8%, from $192.0 million at December 31, 2011 to $220.4 million at June 30, 2012. The increase in time deposits, money market, NOW and savings deposits was driven primarily by the $34.0 million increase in National CDs. The Company currently is not offering or renewing our brokered CDs.

FHLB advances and other borrowings decreased by $16.6 million at June 30, 2012 from December 31, 2011. Loans from related parties increased to $3.4 million for the six months ended June 30, 2012 from $3.0 million at December 31, 2011.

Total shareholders' equity decreased by $10.4 million from $29.3 million at December 31, 2011 to $19.0 million at June 30, 2012. The decrease is mainly attributable to a net loss of $10.5 million. This loss was reduced slightly by a net increase of $143 thousand for net unrealized gains on securities and cash flow hedge. The Company had 40,000,000 authorized shares of $.01 par value common stock, of which 5,890,880 shares were issued and outstanding on June 30, 2012.

Comparison of Operating Results for the Six Months Ended June 30, 2012 and 2011

Net Income

The Company had a net loss for the first six months of 2012 of $10.5 million, compared to $1.5 million of net income in the first six months of 2011. On a diluted per share basis, the net loss was $1.79 for the six months ended June 30, 2012, compared to net income of $0.25 per diluted share for the same period in 2011. The net loss for the first six months of 2012 compared to net income for the same period in 2011 was driven primarily by increased provision for loan losses and OREO expenses and decreased interest income on loans.

Net Interest Income

Net interest income, the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities, was $10.4 million for the six months ended June 30, 2012, compared to $12.2 million for the same period in 2011. The average yield on interest-earning assets for the first six months of 2012 was 4.80%, a decrease of 74 basis points, compared to the 5.54% yield earned during the first six months of 2011.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (Cont.)

Interest income decreased $2.7 million when compared to the first six months of the prior year. This decrease was driven by a decrease in average earning assets, in particular, loan balances which declined by $47.9 million when compared to the prior year. This was further exacerbated by a decrease in the loan yield to 5.33% for the six-month period ended June 30, 2012 from the 5.92% recognized during the six months ended June 30, 2011. The decrease in the loan yield was driven by the following factors when compared to the same period in the previous year:

• Decrease in accretion recognized on acquired loans of approximately $800 thousand;

• Increase in nonaccrual loans of $6.9 million;

• Decrease in the weighted-average loan yield for new loans of 85 basis points; and

• Modifications to reduce existing loan rates to be competitive in the current low-rate market environment.

The average cost of interest-bearing liabilities decreased 32 basis points from 1.51% in the first six months of 2011 to 1.19% in the comparable period in 2012. The average cost of interest-bearing deposits and all interest-bearing liabilities reflect the ongoing reduction in interest rates paid on deposits as a result of the re-pricing of deposits in the current market environment. Additionally, noninterest-bearing demand deposits increased $10.5 million with interest-bearing deposits decreasing over the previous year's six-month period, which further reduced our overall funding costs.

The net interest margin decreased by 45 basis points from 4.25% to 3.80% when comparing the first six months of 2012 to the same period in 2011. The Company closely monitors its liquidity needs in conjunction with the cost of its funding sources and has reduced the rates paid on its core deposits.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (Cont.)

Average Balance Sheet; Interest Rates and Interest Differential. The following table sets forth the average daily balances for each major category of assets, liabilities and shareholders' equity as well as the amounts and average rates earned or paid on each major category of interest-earning assets and interest-bearing liabilities.

                                                                  Six Months Ended June 30,
                                                       2012                                       2011
                                        Average                     Average        Average                     Average
(Dollars in thousands)                  Balance      Interest        Rate          Balance      Interest        Rate
Interest-earning assets:
Loans (1)                              $ 457,385     $  12,132          5.33 %    $ 505,286     $  14,846          5.92 %
Securities (2)                            76,537           972          2.55         65,918           956          2.92
Other interest-earning assets (3)         17,170            41          0.48          5,430            43          1.60

Total interest-earning assets            551,092        13,145          4.80        576,634        15,845          5.54

Noninterest-earning assets (4)            30,164                                     46,343

Total assets                           $ 581,256                                  $ 622,977

Interest-bearing liabilities:
Savings deposits                       $  10,971     $      23          0.42 %    $  12,565     $      55          0.88 %
NOW deposits                              22,224            18          0.17         18,551            14          0.15
Money market deposits                    173,310           688          0.80        172,980           864          1.01
Time deposits                            215,539         1,277          1.19        247,334         2,037          1.66
FHLB advances                             21,722           169          1.56         21,961           202          1.85
Federal Reserve and other
borrowings(8)                              3,048           133          8.77          1,602            69          8.69
Subordinated debt                         16,042           424          5.32         15,976           443          5.59
Other interest-bearing
liabilities(5)                               262            -             -           1,286            -             -

Total interest-bearing liabilities       463,118         2,732          1.19        492,255         3,684          1.51

Noninterest-bearing liabilities           88,066                                     77,967
Shareholders' equity                      30,072                                     52,755

Total liabilities and shareholders'
equity                                 $ 581,256                                  $ 622,977

Net interest income                                  $  10,413                                  $  12,161

Interest rate spread(6)                                                 3.61 %                                     4.03 %

Net interest margin(7)                                                  3.80 %                                     4.25 %

(1) Average loans include nonperforming loans. Interest on loans includes deferred loan fees.

(2) Interest income and rates do not include the effects of a tax equivalent adjustment using a federal tax rate of 34% in adjusting tax-exempt interest on tax-exempt investment securities to a fully taxable basis.

(3) Includes federal funds sold.

(4) For presentation purposes, the BOLI acquired by the Bank has been included in noninterest-earning assets.

(5) Includes federal funds purchased.

(6) Interest rate spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities.

(7) Net interest margin is net interest income divided by average interest-earning assets.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (Cont.)

(8) Federal Reserve and other borrowings include loans from related parties that pay an annual rate of interest equal to 8% on a quarterly basis of the amount outstanding.

Rate/Volume Analysis. The following table sets forth the effect of changes in volumes, changes in rates, and changes in rate/volume on tax-equivalent interest income, interest expense and net interest income.

                                                   Six Months Ended June 31,
                                                      2012 Versus 2011(1)
                                            Increase (decrease) due to changes in:
                                                                                 Net
 (Dollars in thousands)                    Volume               Rate            Change
 Interest income:
 Loans                                  $     (1,340 )      $     (1,374 )     $ (2,714 )
 Securities                                      143                (127 )           16
 Other interest-earning assets                    44                 (46 )           (2 )

 Total interest income                        (1,153 )            (1,547 )       (2,700 )


 Interest expense
 Savings deposits                                 (6 )               (26 )          (32 )
 NOW deposits                                      3                   1              4
 Money market deposits                             2                (178 )         (176 )
 Time deposits                                  (239 )              (521 )         (760 )
 FHLB advances                                    (2 )               (31 )          (33 )
 Federal Reserve and other borrowings             63                   1             64
 Subordinated debt                                 2                 (21 )          (19 )
 Other interest-bearing liabilities               -                   -              -

 Total interest expense                         (177 )              (775 )         (952 )

 Increase in net interest income        $       (976 )      $       (772 )     $ (1,748 )

(1) The change in interest due to both rate and volume has been allocated to the volume and rate components in proportion to the relationship of the dollar amounts of the absolute change in each.

Noninterest Income, Noninterest Expense and Income Taxes

Noninterest income was $727 thousand for the six months ended June 30, 2012, compared to $800 thousand for the same period in 2011. The decrease over the same period in the prior year was driven primarily by a $56 thousand decrease in service charges on deposit accounts as well as a $57 thousand decrease for realized gains on securities, partially offset by a $70 thousand fee received related to a loan pre-payment during the first half of 2012.

Noninterest expense increased over the prior year to $10.0 million for the six months ended June 30, 2012, compared to $8.9 million in the same period in 2011. Increases to compensation, advertising and OREO expenses were offset by reductions in data processing, occupancy, regulatory assessments and merger-related costs.

. . .