In the following pages, Management discusses its analysis of the financial condition and results of operations for the second quarter of 2012 compared to the second quarter of 2011 and to the first quarter of 2012, as well as the six months ended June 30, 2012 compared to the same period in 2011. 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 2011 Annual Report on Form 10-K. 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; the economic cycles in the U.S. and abroad; changes in interest rates, deposit flows, real estate values, securities market and expected future cash flows on acquired loans; 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 this report and our 2011 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.

RESULTS OF OPERATIONS

Highlights of the financial results are presented in the following table:
                                           For the three months ended                           For the six months ended
(dollars in thousands,
except per share data;
unaudited)                  June 30, 2012        March 31, 2012       June 30, 2011        June 30, 2012       June 30, 2011
For the period:
Net income                $         4,951      $          4,940     $         3,439       $        9,891     $         7,948
Net income per share
Basic                     $          0.93      $           0.93     $          0.65       $         1.86     $          1.50
Diluted                   $          0.91      $           0.91     $          0.64       $         1.82     $          1.48
Return on average equity            14.01    %            14.39   %           10.78   %            14.20   %           12.72   %
Return on average assets             1.39    %             1.41   %            1.04   %             1.40   % $          1.23   %
Common stock dividend
payout ratio                        18.28    %            18.28   %           24.62   %            18.28   %           21.33   %
Average shareholders'
equity to average total
assets                               9.96    %             9.79   %            9.62   %             9.87   %            9.70   %
Efficiency ratio                    53.56    %            54.96   %           53.80   %            54.26   %           53.04   %
 Tax equivalent net
interest margin                      4.94    %             4.97   %            5.51   %             4.96   %            5.48   %

At period end:
Book value per common
share                     $         26.92      $          26.18     $         24.25
Total assets              $     1,407,000      $      1,421,284     $     1,337,393
Total loans               $     1,025,194      $      1,032,207     $       986,634
Total deposits            $     1,230,717      $      1,245,641     $     1,138,906
Loan-to-deposit ratio                83.3    %             82.9   %            86.6   %
Total risk based capital
ratio - Bancorp                      13.9    %             13.6   %            13.0   %

Executive Summary

In the second quarter of 2012, we hit record quarterly earnings of $5.0 million, an increase of 0.2% from $4.9 million in the first quarter of 2012, and up 44.0% from $3.4 million in the second quarter of 2011. We reported earnings for the six months ended June 30, 2012 of $9.9 million, an increase of 24.4% from $7.9 million for the same period last year. Diluted earnings per share for the second quarter of 2012 were $0.91, unchanged from the first quarter of 2012 and up $0.27 from the same quarter a year ago. Diluted earnings per share for the six months ended June 30, 2012 totaled $1.82, up $0.34 from $1.48 for the same period of 2011.

The current low interest rate and competitive banking environment has created a challenge for community banks to retain existing and develop new lending relationships. To grow our loan portfolio, our focus is business lending, including wine industry and related businesses. Our loan totals remained steady at $1.0 billion at June 30, 2012 compared to December 31, 2011. Loan originations were offset by early pay-offs and maturities of higher yielding loans, which are being replaced with new loans at the current market rates. Additionally, we have experienced some pressure to make rate concessions.

Credit quality remains solid with net charge-offs in the second quarter of 2012 totaling $187 thousand, down $930 thousand from the prior quarter and down $2.0 million from the same quarter a year ago. We recorded a $100 thousand provision for loan losses in the second quarter of 2012. No provision was recorded in the prior quarter and a $3.0 million provision was recorded in the second quarter of 2011. The absence of newly identified problem loans that have credit loss exposure and limited loan growth led to minimal provision in 2012.

Deposits totaled $1.2 billion at June 30, 2012 and December 31, 2011. Non-interest bearing deposits totaled 32.5% of total deposits at June 30, 2012.

In an effort to deploy excess liquidity, we grew the investment portfolio by $36.6 million (primarily government-guaranteed mortgage-backed and collateralized mortgage obligation securities, as well as corporate bonds) in the second quarter of 2012.

Total risk-based capital ratio for Bancorp grew to 13.9%, up from 13.6% at March 31, 2012, and 13.1% at December 31,

2011, and continues to be well above industry requirements for a well-capitalized institution.

Net interest income in the second quarter of 2012 totaled $16.3 million and remained relatively unchanged from the prior quarter, and decreased $722 thousand, or 4.2%, from the second quarter of 2011. The tax-equivalent net interest margin was 4.94% in the second quarter of 2012 compared to 4.97% in the prior quarter and 5.51% in the second quarter of last year. The tax-equivalent net interest margin was 4.96% in the first half of 2012 compared to 5.48% in the first half of 2011. The decreases in the second quarter and first half of 2012 compared to the same periods a year ago primarily reflect 1) a decline in gains on pay-offs of purchased credit-impaired ("PCI") loans recognized in interest income; 2) a lower level of accretion on non-PCI loans; and 3) lower yield on recently purchased investment securities due to the low interest rate environment. The decreases are partially offset by a reduction in the cost of deposits and the pay-off of two FHLB borrowings with higher interest rates. Going forward, we expect to see pressure on the margin, as low interest environment is expected to continue. As the higher yielding loans and securities mature, we expect them to be replaced at the lower market rate.

Non-interest income in the second quarter of 2012 totaled $1.8 million, compared to $1.7 million in the prior quarter and $1.6 million in the second quarter of 2011. Non-interest income totaled $3.5 million for the first six months of 2012 compared to $3.2 million in the same period of 2011. The increase from the prior periods primarily reflects higher service charges on deposit accounts, income from Wealth Management and Trust Services, and debit card interchange fees.

Non-interest expense totaled $9.7 million in the second quarter of 2012, and remained relatively consistent with the prior quarter. Non-interest expense decreased $313 thousand, or 3.1% from the same quarter a year ago primarily due to lower acquisition-related data processing and professional service costs. Non-interest expense totaled $19.5 million for the six months ended June 30, 2012 compared to $19.1 million in the same period of 2011. The 2.0% increase primarily reflects higher personnel costs associated with merit increases, partially offset by lower FDIC insurance expense and lower acquisition-related expenses.

We reported a provision for income taxes of $3.3 million, $3.1 million and $2.1 million for the quarters ended June 30, 2012, March 31, 2012 and June 30, 2011, respectively. The increase compared to the same quarter a year ago is mainly due to a higher level of pre-tax income. The increase compared to the first quarter of 2012 is also due to the re-estimate of the tax-exempt loan and security income projection.

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, Acquired Loans, Other-than-temporary Impairment of Investment Securities, 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 charge-offs, net of recoveries. 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. Confirmation of the quality of our grading process is obtained by independent reviews conducted by outside consultants specifically hired for this purpose and by periodic examination by various bank regulatory agencies. Management monitors delinquent loans continuously and identifies problem loans to be evaluated individually for impairment testing. For loans that are deemed impaired, formal impairment measurement 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 and 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, including consideration of our historical charge-off history. 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.

For our methodology on estimating the allowance for loan losses on acquired loans, refer to the section Acquired Loans below.

Acquired Loans

Acquired loans are recorded at their estimated fair values at acquisition date in accordance with ASC 805 Business Combinations, factoring in credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for loan losses is not carried over or recorded for acquired loans as of the acquisition date.

The process of estimating fair values of the acquired loans, including the estimate of losses that are expected to be incurred over the estimated remaining lives of the loans at acquisition date and the ongoing updates to Management's expectation of future cash flows, requires significant subjective judgments and assumptions, particularly considering the current economic environment. The economic environment and the lack of market liquidity and transparency are factors that have influenced, and may continue to affect, these assumptions and estimates.

We estimated the fair value of acquired loans at the acquisition date based on a discounted cash flow methodology that considered factors including the type of loan and related collateral, risk classification, fixed or variable interest rate, term of loan and whether or not the loan was amortizing, and current discount rates. Loans were grouped together according to similar characteristics and were treated in the aggregate when applying various valuation techniques. The estimate of expected cash flows incorporates our best estimate of current key assumptions, such as property values, default rates, loss severity and prepayment speeds. The discount rates used for loans were based on current market rates for new originations of comparable loans, where available, and include adjustments for liquidity concerns. To the extent comparable market rates are not readily available, a discount rate was derived based on the assumptions

of market participants' cost of funds, servicing costs and return requirements for comparable risk assets. In either case, the discount rate does not include a factor for credit losses, as that has been considered in estimating the cash flows. The initial estimate of cash flows to be collected was derived from assumptions such as default rates, loss severities and prepayment speeds.

In conjunction with the Acquisition, we purchased certain loans with evidence of credit quality deterioration subsequent to their origination and for which it was probable, at acquisition, that we would be unable to collect all contractually required payments. Management has applied significant subjective judgment in determining which loans are PCI loans. Evidence of credit quality deterioration as of the purchase date may include data such as past due and nonaccrual status, risk grades and recent loan-to-value percentages. Revolving credit agreements (e.g. home equity lines of credit and revolving commercial loans), where the borrower had revolving privileges at acquisition date, are not considered PCI loans because the timing and amount of cash flows cannot be reasonably estimated.

The accounting guidance for PCI loans provides that the excess of the cash flows initially expected to be collected over the fair value of the loans at the acquisition date (i.e., the accretable yield) should be accreted into interest income at a level rate of return over the remaining term of the loan, provided that the timing and amount of future cash flows is reasonably estimable. The difference between the contractually required payments and the cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the nonaccretable difference and is not recorded.

The initial estimate of cash flows expected to be collected is updated each quarter and requires the continued usage of key assumptions and estimates similar to the initial estimate of fair value. Given the current economic environment, we apply judgment to develop our estimate of cash flows for PCI loans given the impact of real estate value changes, changing probability of default, loss severities and prepayment speeds.

For purposes of accounting for the PCI loans purchased in the Acquisition, we elected not to apply the pooling method but to account for these loans individually. Disposals of loans, which may include sales of loans to third parties, receipt of payments in full by the borrower, or foreclosure of the collateral, result in removal of the loan from the PCI loan portfolio at its carrying amount.

If we have probable and significant increases in cash flows expected to be collected on PCI loans, we first reverse any previously established allowance for loan loss and then increase interest income as a prospective yield adjustment over the remaining life of the loans. The impact of changes in variable interest rates is recognized prospectively as adjustments to interest income. All PCI loans that were classified as nonperforming loans prior to Acquisition were no longer classified as nonperforming because, at Acquisition, we believed that we would fully collect the new carrying value of these loans. Subsequent to Acquisition, specific allowances are allocated to PCI loans that have experienced credit deterioration through an increase to the allowance for loan losses. The amount of cash flows expected to be collected and, accordingly, the adequacy of the allowance for loan losses are particularly sensitive to changes in loan credit quality. When there is doubt as to the timing and amount of future cash flows to be collected, PCI are classified as non-accrual loans. It is important to note that judgment is required to classify PCI loans as performing or non-accrual, and is dependent on having a reasonable expectation about the timing and amount of cash flows expected to be collected.

For acquired loans not considered PCI loans, we elect to recognize the entire fair value discount accretion based on the acquired loan's contractual cash flows using an effective interest rate method for term loans, and on a straight line basis to interest income for revolving lines, as the timing and amount of cash flows under revolving lines are not predictable. Subsequent to Acquisition, if the probable and estimable losses for non-PCI loans exceed the amount of the remaining unaccreted discount, the excess is established as an allowance for loan losses.

For further information regarding our acquired loans, see Note 6 to our Consolidated Financial Statements in this Form 10-Q.

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.

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 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. In deciding whether or not our tax positions taken meet the more-likely-than-not recognition threshold, we must make judgments and interpretations about the application of inherently complex state and federal tax laws. To the extent tax authorities disagree with tax positions taken by us, our effective tax rates could be materially affected in the period of settlement with the taxing authorities. Revision of our estimate of accrued income taxes also may result from our own income tax planning, which may affect our effective tax rates and our results of operations for any given quarter.

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 certain assets at fair value on a non-recurring basis, such as purchased loans recorded at acquisition date, 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 write-downs of individual assets due to application of lower-of-cost or market accounting.

We have established and documented a process for determining fair value. We maximize the use of observable 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 4 to the Consolidated Financial Statements in this Form 10-Q.

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 incurred 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. 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.

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.

The following table, Average Statements of Condition and Analysis of Net Interest Income, compares interest income and average interest-earning assets with interest expense and average 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.

. . .