10-Q

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended:     September 30, 2012
OR
[   ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
PEOPLES BANCORP OF NORTH CAROLINA, INC.
(Exact name of registrant as specified in its charter)
North Carolina
(State or other jurisdiction of incorporation or organization)
000-27205	56-2132396
(Commission File No.)	(IRS Employer Identification No.)
518 West C Street, Newton, North Carolina	28658
(Address of principal executive offices)	(Zip Code)
(828) 464-5620
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes   X No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). 

Yes   X No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act.  (Check one):

Large Accelerate Filer Accelerated Filer Non-Accelerated Filer

Smaller Reporting Company X

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2 of the Exchange Act).

Yes No   X

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.

5,596,978 shares of common stock, outstanding at October 31, 2012.

INDEX
PART I.	FINANCIAL INFORMATION		PAGE(S)
Item 1.		Financial Statements
		Consolidated Balance Sheets at September 30, 2012 (Unaudited) and
		December 31, 2011	3
		Consolidated Statements of Earnings for the three and nine months ended
		September 30, 2012 and 2011 (Unaudited)	4
		Consolidated Statements of Comprehensive Income for the three and nine
		months ended September 30, 2012 and 2011 (Unaudited)	5
		Consolidated Statements of Cash Flows for the nine months ended
		September 30, 2012 and 2011 (Unaudited)	6-7
		Notes to Consolidated Financial Statements (Unaudited)	8-22
Item 2.		Management's Discussion  and Analysis of Financial Condition
		and Results of Operations	38
Item 3.		Quantitative and Qualitative Disclosures About Market Risk	39
Item 4T.		Controls and Procedures	40
PART II.	OTHER INFORMATION
Item 1.		Legal Proceedings	41
Item 1A.		Risk Factors	41
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds	41
Item 3.		Defaults upon Senior Securities	41
Item 5.		Other Information	41
Item 6.		Exhibits	41-44
Signatures			45
Certifications			46-48

Statements made in this Form 10-Q, other than those concerning historical information, should be considered forward-looking statements pursuant to the safe harbor provisions of the Securities Exchange Act of 1934 and the Private Securities Litigation Act of 1995.  These forward-looking statements involve risks and uncertainties and are based on the beliefs and assumptions of management and on the information available to management at the time that this Form 10-Q was prepared.  These statements can be identified by the use of words like “expect,” “anticipate,” “estimate,” and “believe,” variations of these words and other similar expressions.  Readers should not place undue reliance on forward-looking statements as a number of important factors could cause actual results to differ materially from those in the forward-looking statements.  Factors that could cause actual results to differ materially include, but are not limited to, (1) competition in the markets served by Peoples Bank, (2) changes in the interest rate environment, (3) general national, regional or local economic conditions may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and the possible impairment of collectibility of loans, (4) legislative or regulatory changes, including changes in accounting standards, (5) significant changes in the federal and state legal and regulatory environments and tax laws, (6) the impact of changes in monetary and fiscal policies, laws, rules and regulations and (7) other risks and factors identified in other filings with the Securities and Exchange Commission, including but not limited to those described in Peoples Bancorp of North Carolina, Inc.’s Annual Report on Form 10-K for the year ended December 31, 2011.

2

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Dollars in thousands)
	September 30,			December 31,
Assets	2012			2011
	(Unaudited)			(Audited)
Cash and due from banks, including reserve requirements	$	24,323			22,532
of $9,620 in 2012 and $8,492 in 2011
Interest bearing deposits		31,581			6,704
Cash and cash equivalents		55,904			29,236
Investment securities available for sale		281,785			321,388
Other investments		5,599			5,712
Total securities		287,384			327,100
Mortgage loans held for sale		5,984			5,146
Loans		625,782			670,497
Less allowance for loan losses		(16,551	)		(16,604	)
Net loans		609,231			653,893
Premises and equipment, net		16,091			16,896
Cash surrender value of life insurance		13,142			12,835
Other real estate		6,595			7,576
Accrued interest receivable and other assets		12,277			14,381
Total assets	$	1,006,608			1,067,063
Liabilities and Shareholders' Equity
Deposits:
Non-interest bearing demand	$	152,281			136,878
NOW, MMDA & savings		354,386			366,133
Time, $100,000 or more		143,189			193,045
Other time		118,614			131,055
Total deposits		768,470			827,111
Securities sold under agreements to repurchase		43,136			39,600
FHLB borrowings		70,000			70,000
Junior subordinated debentures		20,619			20,619
Accrued interest payable and other liabilities		7,549			6,706
Total liabilities		909,774			964,036
Commitments
Shareholders' equity:
Series A preferred stock, $1,000 stated value; authorized
5,000,000 shares; issued and outstanding
12,524 shares in 2012 and 25,054 shares in 2011		12,524			24,758
Common stock, no par value; authorized 20,000,000 shares;
issued and outstanding 5,596,978 shares in 2012 and
5,544,160 shares in 2011		48,004			48,298
Retained earnings		30,815			26,895
Accumulated other comprehensive income		5,491			3,076
Total shareholders' equity		96,834			103,027
Total liabilities and shareholders' equity	$	1,006,608			1,067,063
See accompanying Notes to Consolidated Financial Statements.

3

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES
Consolidated Statements of Earnings
Three and Nine Months Ended September 30, 2012 and 2011
(Dollars in thousands, except per share amounts)
	Three months ended					Nine months ended
	September 30,					September 30,
	2012			2011		2012		2011
	(Unaudited)			(Unaudited)		(Unaudited)		(Unaudited)
Interest income:
Interest and fees on loans	$	8,170		8,921		24,822		27,695
Interest on due from banks		15		4		34		19
Interest on investment securities:
U.S. Government sponsored enterprises,
including mortgage-backed securities		519		1,504		2,327		3,998
States and political subdivisions		877		792		2,463		2,387
Other		74		70		206		171
Total interest income		9,655		11,291		29,852		34,270
Interest expense:
NOW, MMDA & savings deposits		274		517		913		1,836
Time deposits		737		1,221		2,632		3,901
FHLB borrowings		689		761		2,064		2,258
Junior subordinated debentures		110		100		332		300
Other		32		74		105		231
Total interest expense		1,842		2,673		6,046		8,526
Net interest income		7,813		8,618		23,806		25,744
Provision for loan losses		761		3,378		4,413		9,696
Net interest income after provision for loan losses		7,052		5,240		19,393		16,048
Non-interest income:
Service charges		1,222		1,273		3,601		3,845
Other service charges and fees		417		493		1,532		1,603
Gain on sale of securities		12		1,239		1,203		2,495
Mortgage banking income		296		127		793		531
Insurance and brokerage commissions		150		121		404		350
Loss on sale and write-down of
other real estate		(326	)	(318	)	(710	)	(1,026	)
Miscellaneous		1,115		787		3,035		2,233
Total non-interest income		2,886		3,722		9,858		10,031
Non-interest expense:
Salaries and employee benefits		4,187		3,489		11,960		10,829
Occupancy		1,291		1,334		3,891		4,030
Other		2,678		2,341		7,420		7,083
Total non-interest expense		8,156		7,164		23,271		21,942
Earnings before income taxes		1,782		1,798		5,980		4,137
Income tax expense		369		406		1,400		755
Net earnings		1,413		1,392		4,580		3,382
Dividends and accretion on preferred stock		157		348		853		1,045
Net earnings available to common shareholders	$	1,256		1,044		3,727		2,337
Basic and diluted net earnings per common share	$	0.23		0.19		0.67		0.42
Cash dividends declared per common share	$	0.02		0.02		0.11		0.04
See accompanying Notes to Consolidated Financial Statements.

4

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
Three and Nine Months Ended September 30, 2012 and 2011
(Dollars in thousands)
	Three months ended					Nine months ended
	September 30,					September 30,
	2012			2011		2012		2011
	(Unaudited)			(Unaudited)		(Unaudited)		(Unaudited)
Net earnings	$	1,413		1,392		4,580		3,382
Other comprehensive income:
Unrealized holding gains on securities
available for sale		1,427		3,612		5,156		9,653
Reclassification adjustment for gains on
securities available for sale
included in net earnings		(12	)	(1,239	)	(1,203	)	(2,495	)
Unrealized holding losses on derivative
financial instruments qualifying as cash flow
hedges		-		-		-		(648	)
Total other comprehensive income,
before income taxes		1,415		2,373		3,953		6,510
Income tax expense related to other
comprehensive income:
Unrealized holding gains on securities
available for sale		555		1,407		2,008		3,760
Reclassification adjustment for gains
on securities available for sale
included in net earnings		(4	)	(483	)	(470	)	(972	)
Unrealized holding losses on derivative
financial instruments qualifying as cash flow
hedges		-		-		-		(253	)
Total income tax expense related to
other comprehensive income		551		924		1,538		2,535
Total other comprehensive income,
net of tax		864		1,449		2,415		3,975
Total comprehensive income	$	2,277		2,841		6,995		7,357
See accompanying Notes to Consolidated Financial Statements.

5

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2012 and 2011
(Dollars in thousands)
	2012			2011
	(Unaudited)			(Unaudited)
Cash flows from operating activities:
Net earnings	$	4,580		3,382
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Depreciation, amortization and accretion		6,651		3,915
Provision for loan losses		4,413		9,696
Gain on sale of investment securities		(1,203	)	(2,495	)
Loss on sale of other real estate		21		181
Write-down of other real estate		689		845
Restricted stock expense		17		5
Change in:
Mortgage loans held for sale		(838	)	1,666
Cash surrender value of life insurance		(307	)	(182	)
Other assets		565		1,546
Other liabilities		826		438
Net cash provided by operating activities		15,414		18,997
Cash flows from investing activities:
Net change in certificates of deposit		-		735
Purchases of investment securities available for sale		(55,617	)	(158,631	)
Proceeds from calls, maturities and paydowns of investment securities
available for sale		48,123		39,813
Proceeds from sales of investment securities available for sale		47,062		72,292
Purchases of other investments		(493	)	(215	)
Proceeds from sale of other investments		606		197
Net change in loans		35,910		36,659
Purchases of premises and equipment		(657	)	(775	)
Purchases of bank owned life insurance		-		(5,000	)
Proceeds from sale of other real estate		4,611		2,656
Net cash provided (used) by investing activities		79,545		(12,269	)
Cash flows from financing activities:
Net change in deposits		(58,641	)	2,329
Net change in demand notes payable to U.S. Treasury		-		(504	)
Net change in securities sold under agreement to repurchase		3,536		13,607
Proceeds from FHLB borrowings		25,400		5,000
Repayments of FHLB borrowings		(25,400	)	(5,000	)
Preferred stock repurchase		(11,695	)	-
Warrant repurchase		(425	)	-
Restricted stock payout		-		9
Stock options exercised		410		-
Cash dividends paid on preferred stock		(866	)	(940	)
Cash dividends paid on common stock		(610	)	(333	)
Net cash (used) provided by financing activities		(68,291	)	14,168
Net change in cash and cash equivalent		26,668		20,896
Cash and cash equivalents at beginning of period		29,236		23,977
Cash and cash equivalents at end of period	$	55,904		44,873

6

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows, continued
Nine Months Ended September 30, 2012 and 2011
(Dollars in thousands)
	2012		2011
	(Unaudited)		(Unaudited)
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest	$	6,609	8,613
Income taxes	$	1,190	132
Noncash investing and financing activities:
Change in unrealized gain on investment securities
available for sale, net	$	2,414	(4,370	)
Change in unrealized gain on derivative financial
instruments, net	$	-	395
Transfer of loans to other real estate and repossessions	$	4,669	7,041
Financed portion of sale of other real estate	$	330	4,047
Accretion of Series A preferred stock	$	70	106
Discount on preferred stock	$	835	-
See accompanying Notes to Consolidated Financial Statements.

7

PEOPLES BANCORP OF NORTH CAROLINA, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

(1) Summary of Significant Accounting Policies

The consolidated financial statements include the financial statements of Peoples Bancorp of North Carolina, Inc. and its wholly-owned subsidiaries, Peoples Bank (the “Bank”) and Community Bank Real Estate Solutions, LLC, along with the Bank’s wholly-owned subsidiaries, Peoples Investment Services, Inc. and Real Estate Advisory Services, Inc. (“REAS”) (collectively called the “Company”).  All significant intercompany balances and transactions have been eliminated in consolidation.

The consolidated financial statements in this report (other than the Consolidated Balance Sheet at December 31, 2011) are unaudited.  In the opinion of management, all adjustments (none of which were other than normal accruals) necessary for a fair presentation of the financial position and results of operations for the periods presented have been included.  Management of the Company has made a number of estimates and assumptions relating to reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with generally accepted accounting principles in the United States (“GAAP”).  Actual results could differ from those estimates.

The Company’s accounting policies are fundamental to understanding management’s discussion and analysis of results of operations and financial condition.  Many of the Company’s accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of the specific accounting guidance.  A description of the Company’s significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company’s 2011 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 3, 2012 Annual Meeting of Shareholders.

Recently Issued Accounting Pronouncements

In April 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2011-02, A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring. ASU No. 2011-02 provides additional guidance for determining what constitutes a troubled debt restructuring.  ASU No. 2011-02 is effective for interim and annual periods ending after June 15, 2011.  The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position ordisclosures.

In May 2011, FASB issued ASU No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (“IFRS”).  ASU No. 2011-04 is intended to result in convergence between GAAP and IFRS requirements for measurement of and disclosures about fair value.  ASU No. 2011-04 is effective for interim and annual periods beginning after December 15, 2011.  The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position ordisclosures.

In June 2011, FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income.  ASU No. 2011-05 requires companies to present the components of net income and other comprehensive income either as one continuous statement or as two consecutive statements.  It eliminates the option to present components of other comprehensive income as part of the statement of changes in shareholders’ equity.  ASU No. 2011-05 does not change the items which must be reported in other comprehensive income, how such items are measured or when they must be reclassified to net income. ASU No. 2011-05 is effective for interim and annual periods beginning after December 15, 2011.  Because ASU No. 2011-05 impacts presentation only, it has no impact on the Company’s results of operations or financial position.

In December 2011, FASB issued ASU No. 2011-12, Comprehensive Income (Topic 220):Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.  ASU No. 2011-12defers the effective date of the requirement to present separate line items on the income statement for reclassification adjustments of items out of accumulated other comprehensive income into net income.  This deferral is temporary until  FASB reconsiders the operational concerns and needs of financial statement users.  FASB has not yet established a timetable for its reconsideration.  Entities are still required to present reclassification adjustments within other comprehensive income either on the face of the statement that reports other comprehensive income or in the notes to the financial statements.  The requirement to present comprehensive income in either a single continuous statement or two consecutive condensed statements remains for both annual and interim reporting.  Because ASU No. 2011-12 impacts presentation only, it will have no impact on the Company’s results of operations or financial position.

8

Other accounting standards that have been issued or proposed by FASB or other standards-setting bodies are not expected to have a material impact on the Company’s results ofoperations, financial position or disclosures.

(2)    Investment Securities

Investment securities available for sale at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
	September 30, 2012
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	158,548	1,982	444	160,086
U.S. Government
sponsored enterprises		1,254	40	-	1,294
State and political subdivisions		109,456	6,739	46	116,149
Corporate bonds		1,535	16	-	1,551
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	707	-	1,455
Total	$	272,791	9,484	490	281,785
(Dollars in thousands)
	December 31, 2011
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	213,378	1,371	1,056	213,693
U.S. Government
sponsored enterprises		7,429	265	-	7,694
State and political subdivisions		92,996	4,157	56	97,097
Corporate bonds		546	-	3	543
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	363	-	1,111
Total	$	316,347	6,156	1,115	321,388

The current fair value and associated unrealized losses on investments in securities with unrealized losses at September 30, 2012 and December 31, 2011 are summarized in the tables below, with the length of time the individual securities have been in a continuous loss position.

(Dollars in thousands)
	September 30, 2012
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	38,125	379	5,750	65	43,875	444
State and political subdivisions		4,406	46	-	-	4,406	46
Total	$	42,531	425	5,750	65	48,281	490
(Dollars in thousands)
	December 31, 2011
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	95,122	991	4,125	65	99,247	1,056
State and political subdivisions		4,444	56	-	-	4,444	56
Corporate bonds		542	3	-	-	542	3
Total	$	100,108	1,050	4,125	65	104,233	1,115

9

At September 30, 2012, unrealized losses in the investment securities portfolio relating to debt securities totaled $490,000.  The unrealized losses on these debt securities arose due to changing interest rates and are considered to be temporary.  From the September 30, 2012 tables above, seven out of 143 securities issued by state and political subdivisions contained unrealized losses and 21 out of 86 securities issued by U.S. Government sponsored enterprises, including mortgage-backed securities, contained unrealized losses.  These unrealized losses are considered temporary because of acceptable investment grades on each security and the repayment sources of principal and interest are government backed.

The amortized cost and estimated fair value of investment securities available for sale at September 30, 2012, by contractual maturity, are shown below. Expected maturities of mortgage-backed securities will differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

(Dollars in thousands)
	Amortized Cost		Estimated Fair Value
Due within one year	$	3,611	3,653
Due from one to five years		12,117	12,581
Due from five to ten years		84,014	89,146
Due after ten years		13,753	14,864
Mortgage-backed securities		158,548	160,086
Equity securities		748	1,455
Total	$	272,791	281,785

Proceeds from sales of securities available for sale during the nine months ended September 30, 2012 were $47.0 million and resulted in gross gains of $1.3 million and gross losses of $103,000.  Proceeds from sales of securities available for sale during the nine months ended September 30, 2011 were $72.3 million and resulted in gross gains of $2.5 million and gross losses of $9,000.

Securities with a fair value of approximately $88.8 million and $83.6 million at September 30, 2012 and December 31, 2011, respectively, were pledged to secure public deposits and for other purposes as required by law.

(3)     Loans

Major classifications of loans at September 30, 2012 and December 31, 2011 are summarized as follows:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	80,733	93,812
Single-family residential		249,167	267,051
Commercial		203,603	214,415
Multifamily and farmland		4,964	4,793
Total real estate loans		538,467	580,071
Commercial loans (not secured by real estate)		60,358	60,646
Farm loans (not secured by real estate)		12	-
Consumer loans (not secured by real estate)		10,303	10,490
All other loans (not secured by real estate)		16,642	19,290
Total loans		625,782	670,497
Less allowance for loan losses		16,551	16,604
Total net loans	$	609,231	653,893

The Bank grants loans and extensions of credit primarily within the Catawba Valley region of North Carolina, which encompasses Catawba, Alexander, Iredell and Lincoln counties and also in Mecklenburg, Union and Wake counties of North Carolina.  Although the Bank has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by improved and unimproved real estate, the value of which is dependent upon the real estate market.

10

Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are placed on non-accrual status when, in management’s opinion, the borrower may be unable to meet payment obligations as they become due, as well as when required by regulatory provisions. Loans may be placed on non-accrual status regardless of whether or not such loans are considered past due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

The following tables present an age analysis of past due loans, by loan type, as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	1,513	1,846	3,359	77,374	80,733	-
Single-family residential		8,145	4,758	12,903	236,264	249,167	2,396
Commercial		743	2,492	3,235	200,368	203,603	-
Multifamily and farmland		209	-	209	4,755	4,964	-
Total real estate loans		10,610	9,096	19,706	518,761	538,467	2,396
Commercial loans (not secured by real estate)		854	18	872	59,486	60,358	-
Farm loans (not secured by real estate)		-	-	-	12	12	-
Consumer loans (not secured by real estate)		119	5	124	10,179	10,303	2
All other loans (not secured by real estate)		-	-	-	16,642	16,642	-
Total loans	$	11,583	9,119	20,702	605,080	625,782	2,398

December 31, 2011
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	10,033	3,338	13,371	80,441	93,812	-
Single-family residential		16,536	6,189	22,725	244,326	267,051	2,709
Commercial		1,002	958	1,960	212,455	214,415	-
Multifamily and farmland		13	-	13	4,780	4,793	-
Total real estate loans		27,584	10,485	38,069	542,002	580,071	2,709
Commercial loans (not secured by real estate)		576	9	585	60,061	60,646	-
Consumer loans (not secured by real estate)		116	36	152	10,338	10,490	-
All other loans (not secured by real estate)		-	-	-	19,290	19,290	-
Total loans	$	28,276	10,530	38,806	631,691	670,497	2,709

The following table presents the Company’s non-accrual loans as of September 30, 2012 and December 31, 2011:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	10,866	13,257
Single-family residential		4,255	5,522
Commercial		3,239	2,451
Total real estate loans		18,360	21,230
Commercial loans (not secured by real estate)		457	403
Consumer loans (not secured by real estate)		22	152
Total	$	18,839	21,785

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At each reporting period, the Bank determines which loans are impaired.  Accordingly, the Bank’s impaired loans are reported at their estimated fair value on a non-recurring basis.  An allowance for each impaired loan, which is generally collateral-dependent, is calculated based on the fair value of its collateral.  The fair value of the collateral is based on appraisals performed by REAS, a subsidiary of the Bank.  REAS is staffed by certified appraisers that also perform appraisals for other companies.   Factors including the assumptions and techniques utilized by the appraiser are considered by management.  If the recorded investment in the impaired loan exceeds the measure of fair value of the collateral, a valuation allowance is recorded as a component of the allowance for loan losses.  Impaired loans under $250,000 are not individually evaluated for impairment, with the exception of the Bank’s troubled debt restructured (“TDR”) loans in the residential mortgage loan portfolio, which are individually evaluated for impairment.  Accruing impaired loans were $38.7 million, $21.1 million and $30.6 million at September 30, 2012, September 30, 2011 and December 31, 2011, respectively.  Interest income recognized on accruing impaired loans was $1.4 million, $897,000 and $1.7 million for the nine months ended September 30, 2012, the nine months ended September 30, 2011 and the year ended December 31, 2011, respectively.  No interest income is recognized on non-accrual impaired loans subsequent to their classification as impaired.

The following tables present the Company’s impaired loans as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,090	12,832	7,437	20,269	1,821	13,806
Single-family residential		29,652	5,193	23,416	28,609	1,343	28,620
Commercial		7,903	6,953	317	7,270	114	5,565
Multifamily and farmland		200	200	-	200	-	201
Total impaired real estate loans		65,845	25,178	31,170	56,348	3,278	48,192
Commercial loans (not secured by real estate)		1,155	1,117	-	1,117	-	1,187
Consumer loans (not secured by real estate)		-	30	-	30	-	38
Total impaired loans	$	67,000	26,325	31,170	57,495	3,278	49,417

December 31, 2011
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,721	14,484	6,098	20,582	3,264	17,848
Single-family residential		26,382	969	24,719	25,688	1,427	25,102
Commercial		7,717	3,845	3,139	6,984	77	4,518
Multifamily and farmland		209	-	209	209	1	214
Total impaired real estate loans		63,029	19,298	34,165	53,463	4,769	47,682
Commercial loans (not secured by real estate)		1,111	-	1,083	1,083	26	1,485
Consumer loans (not secured by real estate)		157	-	152	152	2	140
Total impaired loans	$	64,297	19,298	35,400	54,698	4,797	49,307

Changes in the allowance for loan losses for the nine months ended September 30, 2012 and the year ended December 31, 2011 were as follows:

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Nine months ended September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland	Commercial		Farm	Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	7,182		5,357		1,731		13	1,029		-	255		1,037	16,604
Charge-offs		(3,045	)	(1,149	)	(547	)	-	(498	)	-	(403	)	-	(5,642	)
Recoveries		522		71		374		-	95		-	115		-	1,177
Provision		1,733		817		(21	)	-	(18	)	-	222		1,679	4,412
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Ending balance: individually
evaluated for impairment	$	1,527		1,637		114		-	-		-	-		-	3,278
Ending balance: collectively
evaluated for impairment		4,865		3,459		1,423		13	608		-	189		2,716	13,273
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Loans:
Ending balance	$	80,733		249,167		203,603		4,964	60,358		12	26,945		-	625,782
Ending balance: individually
evaluated for impairment	$	19,734		23,770		6,798		-	346		-	-		-	50,648
Ending balance: collectively
evaluated for impairment	$	60,999		225,397		196,805		4,964	60,012		12	26,945		-	575,134

Year ended December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland		Commercial		Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	5,774		6,097		1,409		17		1,174		430		592	15,493
Charge-offs		(7,164	)	(2,925	)	(1,271	)	-		(314	)	(586	)	-	(12,260	)
Recoveries		241		201		24		-		121		152		-	739
Provision		8,331		1,984		1,569		(4	)	48		259		445	12,632
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Ending balance: individually
evaluated for impairment	$	1,250		1,289		-		-		-		-		-	2,539
Ending balance: collectively
evaluated for impairment		5,932		4,068		1,731		13		1,029		255		1,037	14,065
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Loans:
Ending balance	$	93,812		267,051		214,415		4,793		60,646		29,780		-	670,497
Ending balance: individually
evaluated for impairment	$	20,280		20,661		3,845		-		-		-		-	44,786
Ending balance: collectively
evaluated for impairment	$	73,532		246,390		210,570		4,793		60,646		29,780		-	625,711

The Company utilizes an internal risk grading matrix to assign a risk grade to each of its loans.  Loans are graded on a scale of 1 to 9.  These risk grades are evaluated on an ongoing basis.  A description of the general characteristics of the nine risk grades is as follows:

·   Risk Grade 1 – Excellent Quality: Loans are well above average quality and a minimal amount of credit risk exists.  CD or cash secured loans or properly margined actively traded stock or bond secured loans would fall in this grade.

·   Risk Grade 2 – High Quality: Loans are of good quality with risk levels well within the Company’s range of acceptability.  The organization or individual is established with a history of successful performance though somewhat susceptible to economic changes.

·   Risk Grade 3 – Good Quality: Loans of average quality with risk levels within the Company’s range of acceptability but higher than normal. This may be a new organization or an existing organization in a transitional phase (e.g. expansion, acquisition, market change).

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·   Risk Grade 4 – Management Attention: These loans have higher risk and servicing needs but still are acceptable. Evidence of marginal performance or deteriorating trends is observed.  These are not problem credits presently, but may be in the future if the borrower is unable to change its present course.

·   Risk Grade 5 – Watch: These loans are currently performing satisfactorily, but there has been some recent past due history on repayment and there are potential weaknesses that may, if not corrected, weaken the asset or inadequately protect the Company’s position at some future date.

·   Risk Grade 6 – Substandard: A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the obligor or the collateral pledged (if there is any).  There is a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.  There is a distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

·   Risk Grade 7 – Low Substandard: These loans have the general characteristics of a Grade 6 Substandard loan, with heightened potential concerns.  The exact amount of loss is not yet known because neither the liquidation value of the collateral nor the borrower’s predicted repayment ability is known with confidence.

·   Risk Grade 8 – Doubtful: Loans classified as Doubtful have all the weaknesses inherent in loans classified Substandard, plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values highly questionable and improbable.  Doubtful is a temporary grade where a loss is expected but is presently not quantified with any degree of accuracy. Once the loss position is determined, the amount is charged off.

·   Risk Grade 9 – Loss: Loans classified as Loss are considered uncollectable and of such little value that their continuance as bankable assets is not warranted.  This classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this worthless loan even though partial recovery may be realized in the future.  Loss is a temporary grade until the appropriate authority is obtained to charge the loan off.

The following tables present the credit risk profile of each loan type based on internally assigned risk grades as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Farm	Consumer	All Other	Total
1- Excellent Quality	$	192	23,029	-	-	954	-	1,350	-	25,525
2- High Quality		5,132	58,651	24,297	36	9,737	-	4,213	2,376	104,442
3- Good Quality		23,443	88,980	116,735	2,647	36,287	12	4,226	14,261	286,591
4- Management Attention		24,565	48,969	49,292	1,364	12,103	-	388	5	136,686
5- Watch		8,177	11,249	8,609	717	351	-	89	-	29,192
6- Substandard		19,224	18,289	4,670	200	926	-	37	-	43,346
7- Low Substandard		-	-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	-	-	-	-
Total	$	80,733	249,167	203,603	4,964	60,358	12	10,303	16,642	625,782

December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Consumer	All Other	Total
1- Excellent Quality	$	197	25,474	-	-	715	1,344	-	27,730
2- High Quality		5,183	64,817	25,506	50	8,801	4,070	2,774	111,201
3- Good Quality		27,675	100,388	136,137	3,448	36,585	4,259	16,509	325,001
4- Management Attention		28,138	50,253	40,312	358	12,882	429	7	132,379
5- Watch		15,923	11,767	2,795	728	622	89	-	31,924
6- Substandard		16,696	14,352	9,665	209	1,041	154	-	42,117
7- Low Substandard		-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	145	-	145
Total	$	93,812	267,051	214,415	4,793	60,646	10,490	19,290	670,497

14

At September 30, 2012, TDR loans were $21.8 million, including $1.8 million in performing TDR loans.  Effective March 31, 2012, performing TDR balances reflect current year TDR loans only, in accordance with GAAP.  Previously reported TDR amounts reflect cumulative TDR loans from prior periods in addition to current year TDR loans.  At December 31, 2011, TDR loans were $44.1 million, including $15.1 million in performing TDR loans.   The terms of these loans have been renegotiated to provide a reduction in principal or interest as a result of the deteriorating financial position of the borrower.

The following table presents an analysis of TDR loans by loan type as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	20	$	16,735	9,824
Single-family residential	97		10,965	10,118
Commercial	5		3,136	981
Multifamily and Farmland	1		322	200
Total real estate TDR loans	123		31,158	21,123
Commercial loans (not secured by real estate)	14		1,271	706
Consumer loans (not secured by real estate)	1		2	6
Total TDR loans	138	$	32,431	21,835

December 31, 2011
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	29	$	19,762	12,840
Single-family residential	241		25,541	24,846
Commercial	15		7,200	5,013
Multifamily and Farmland	1		322	209
Total real estate TDR loans	286		52,825	42,908
Commercial loans (not secured by real estate)	21		1,711	1,083
Consumer loans (not secured by real estate)	8		124	142
Total TDR loans	315	$	54,660	44,133

(4)     Net Earnings Per Common Share

Net earnings per common share is based on the weighted average number of common shares outstanding during the period while the effects of potential common shares outstanding during the period are included in diluted earnings per common share.  The average market price during the year is used to compute equivalent shares.

The reconciliation of the amounts used in the computation of both “basic earnings per common share” and “diluted earnings per common share” for the three and nine months ended September 30, 2012 and 2011 is as follows:

15

For the three months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,256	5,559,016	$	0.23
Effect of dilutive securities:
Stock options		-	2,570
Diluted earnings per common share	$	1,256	5,561,586	$	0.23

For the nine months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	3,727	5,549,148	$	0.67
Effect of dilutive securities:
Stock options		-	2,168
Diluted earnings per common share	$	3,727	5,551,316	$	0.67

For the three months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,044	5,542,703	$	0.19
Effect of dilutive securities:
Stock options		-	1,922
Diluted earnings per common share	$	1,044	5,544,625	$	0.19

For the nine months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	2,337	5,542,126	$	0.42
Effect of dilutive securities:
Stock options		-	1,739
Diluted earnings per common share	$	2,337	5,543,865	$	0.42

(5)     Stock-Based Compensation

The Company has an Omnibus Stock Ownership and Long Term Incentive Plan (the “1999 Plan”) whereby certain stock-based rights, such as stock options, restricted stock, restricted stock units, performance units, stock appreciation rights, or book value shares, may be granted to eligible directors and employees.

Under the 1999 Plan, the Company granted incentive stock options to certain eligible employees in order that they may purchase Company stock at a price equal to the fair market value on the date of the grant.  The options granted in 1999 vested over a five-year period.  Options granted subsequent to 1999 vested over a three-year period.  All options expire ten years after issuance.   The 1999 Plan expired on May 13, 2009.

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The Company granted 3,000 restricted stock units in 2007 at a grant date fair value of $17.40 per share. The Company granted 1,750 restricted stock units at a grant date fair value of $12.80 per share during the third quarter of 2008 and 2,000 restricted stock units at a fair value of $11.37 per share during the fourth quarter of 2008. The Company recognizes compensation expense on the restricted stock units over the period of time the restrictions are in place (three years from the grant date for the grants to date under the 1999 Plan).  The amount of expense recorded each period reflects the changes in the Company’s stock price during the period.  As of September 30, 2012, there was no unrecognized compensation cost related to the 2007 and 2008 restricted stock unit grants.

The Company also has an Omnibus Stock Ownership and Long Term Incentive Plan that was approved by shareholders’ on May 7, 2009 (the “2009 Plan”) whereby certain stock-based rights, such as stock options, restricted stock, restricted stock units, performance units, stock appreciation rights, or book value shares, may be granted to eligible directors and employees.  A total of 330,486 shares are currently reserved for possible issuance under the 2009 Plan.   All rights must be granted or awarded within ten years from the May 7, 2009 effective date of the 2009 Plan.

The Company granted 29,514 restricted stock units in March 2012 at a grant date fair value of $7.90 per share.   5,355 restricted stock units were forfeited by the executive officers of the Company as required by the agreement with the U.S. Department of the Treasury (“UST”) in conjunction with the Company’s participation in the Capital Purchase Program (“CPP”) under the Troubled Asset Relief Program (“TARP”) in 2008.  In July 2012, the Company granted 5,355 restricted stock units at a grant date fair value of $8.25. The Company recognizes compensation expense on the restricted stock units over the period of time the restrictions are in place (five years from the grant date for the grants to date under the 2009 Plan).  The amount of expense recorded each period reflects the changes in the Company’s stock price during the period.  As of September 30, 2012, the total unrecognized compensation cost related to the 2012 restricted stock unit grants was $264,000.

(6) Fair Value

The Company is required to disclose fair value information about financial instruments, whether or not recognized on the face of the balance sheet, for which it is practicable to estimate that value. The assumptions used in the estimation of the fair value of the Company’s financial instruments are detailed below. Where quoted prices are not available, fair values are based on estimates using discounted cash flows and other valuation techniques. The use of discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following disclosures should not be considered a surrogate of the liquidation value of the Company, but rather a good faith estimate of the increase or decrease in the value of financial instruments held by the Company since purchase, origination, or issuance.

The Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.  These levels are:

·   Level 1 – Valuation is based upon quoted prices for identical instruments traded in active markets.

·   Level 2 – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.

·   Level 3 – Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market.  These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.

Cash and Cash Equivalents

For cash, due from banks and interest-bearing deposits, the carrying amount is a reasonable estimate of fair value.

Investment Securities Available for Sale

Fair values of investment securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges when available.  If quoted prices are not available, fair value is determined using matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities.  Fair values for investment securities with quoted market prices are reported in the Level 1 fair value category.  Fair value measurements obtained from independent pricing services are reported in the Level 2 fair value category.  All other fair value measurements are reported in the Level 3 fair value category.

17

Other Investments

For other investments, the carrying value is a reasonable estimate of fair value.

Mortgage Loans Held for Sale

Mortgage loans held for sale are carried at lower of aggregate cost or market value.  The cost of mortgage loans held for sale approximates the market value.  Mortgage loans held for sale are reported  in the Level 3 fair value category.

Loans

The fair value of fixed rate loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings. For variable rate loans, the carrying amount is a reasonable estimate of fair value.  Impaired loans with current certified appraisals are included in the Level 2 fair value category.  All other loans are included in the Level 3 fair value category, as the pricing of loans is more subjective than the pricing of other financial instruments.

Cash Surrender Value of Life Insurance

For cash surrender value of life insurance, the carrying value is a reasonable estimate of fair value.

Other Real Estate

The fair value of other real estate is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral.  Other real estate is reported in the Level 3 fair value category.

Derivative Instruments

For derivative instruments, fair value is estimated as the amount that the Company would receive or pay to terminate the contracts at the reporting date, taking into account the current unrealized gains or losses on open contracts.

Deposits

The fair value of demand deposits, interest-bearing demand deposits and savings is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities.

Securities Sold Under Agreements to Repurchase

For securities sold under agreements to repurchase, the carrying value is a reasonable estimate of fair value.

Federal Home Loan Bank (“FHLB”) Borrowings

The fair value of FHLB borrowings is estimated based upon discounted future cash flows using a discount rate comparable to the current market rate for such borrowings.

Junior Subordinated Debentures

Because the Company’s junior subordinated debentures were issued at a floating rate, the carrying amount is a reasonable estimate of fair value.

Commitments to Extend Credit and Standby Letters of Credit

Commitments to extend credit and standby letters of credit are generally short-term and at variable interest rates. Therefore, both the carrying value and estimated fair value associated with these instruments are immaterial.

Limitations

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on many judgments. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

18

Fair value estimates are based on existing on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial instruments include deferred income taxes and premises and equipment. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

GAAP establishes a framework for measuring fair value and expands disclosures about fair value measurements. There is a three-level fair value hierarchy for fair value measurements.  Level 1 inputs are quoted prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.   The following tables present the balance of securities available for sale and mortgage loans held for sale, which are measured at fair value on a recurring basis by level within the fair value hierarchy as of September 30, 2012 and December 31, 2011.

(Dollars in thousands)
	September 30, 2012
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	160,086	-	160,086	-
U.S. Government
sponsored enterprises	$	1,294	-	1,294	-
State and political subdivisions	$	116,149	-	116,149	-
Corporate bonds	$	1,551	-	1,551	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,455	1,455	-	-
Mortgage loans held for sale	$	5,984	-	-	5,984

(Dollars in thousands)
	December 31, 2011
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	213,693	-	208,349	5,344
U.S. Government
sponsored enterprises	$	7,694	-	7,694	-
State and political subdivisions	$	97,097	-	97,097	-
Corporate bonds	$	543	-	543	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,111	1,111	-	-
Mortgage loans held for sale	$	5,146	-	-	5,146

The following is an analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs, for the nine months ended September 30, 2012.  Transfers out of Level 3 during the nine months ended September 30, 2012 are attributable to one available for sale security reported in Level 3 at December 31, 2011 because market pricing was unavailable from the Bank’s third party bond accounting provider at that time.  This security was reported in Level 2 at September 30, 2012, as the market valuation was provided by the Bank’s third party bond accounting provider.

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(Dollars in thousands)
	Investment Securities Available for Sale
	Level 3 Valuation
Balance, beginning of period	$	6,594
Change in book value		-
Change in gain/(loss) realized and unrealized		-
Purchases/(sales)		-
Transfers in and/or (out) of Level 3		(5,344	)
Balance, end of period	$	1,250
Change in unrealized gain/(loss) for assets still held in Level 3	$	-

The Company’s September 30, 2012 and December 31, 2011 fair value measurement for impaired loans and other real estate on a non-recurring basis is presented below:

(Dollars in thousands)
	Fair Value Measurements September 30, 2012		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Nine Months Ended September 30, 2012
Impaired loans	$	57,495	-	-	57,495	(5,408	)
Other real estate	$	6,595	-	-	6,595	(710	)

(Dollars in thousands)
	Fair Value Measurements December 31, 2011		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Year Ended December 31, 2011
Impaired loans	$	49,901	-	431	49,470	(11,864	)
Other real estate	$	7,576	-	-	7,576	(1,322	)

The carrying amount and estimated fair value of the Company’s financial instruments at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
			Fair Value Measurements at September 30, 2012
	Carrying Amount		Level 1	Level 2	Level 3	Total
Assets:
Cash and cash equivalents	$	55,904	55,904	-	-	55,904
Investment securities available for sale		281,785	1,455	279,080	1,250	281,785
Other investments		5,599	-	-	5,599	5,599
Mortgage loans held for sale		5,984	-	-	5,984	5,984
Loans, net		609,231	-	-	604,690	604,690
Cash surrender value of life insurance		13,142	-	13,142	-	13,142
Liabilities:
Deposits	$	768,470	-	767,543	-	767,543
Securities sold under agreements
to repurchase		43,136	-	43,136	-	43,136
FHLB borrowings		70,000	-	75,938	-	75,938
Junior subordinated debentures		20,619	-	20,619	-	20,619

20

(Dollars in thousands)
	December 31, 2011
	Carrying Amount		Estimated Fair Value
Assets:
Cash and cash equivalents	$	29,236	29,236
Investment securities available for sale		321,388	321,388
Other investments		5,712	5,712
Mortgage loans held for sale		5,146	5,146
Loans, net		653,893	648,640
Cash surrender value of life insurance		12,835	12,835
Liabilities:
Deposits and demand notes payable	$	827,111	826,810
Securities sold under agreements
to repurchase		39,600	39,600
FHLB borrowings		70,000	75,046
Junior subordinated debentures		20,619	20,619

 (7) Derivative Instruments and Hedging Activities

Accounting Policy for Derivative Instruments and Hedging Activities

The disclosure requirements for derivatives and hedging activities have the intent to provide users of financial statements with an enhanced understanding of: (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows.  The disclosure requirements include qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about the fair value of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative instruments.

The Company records all derivatives on the balance sheet at fair value.  The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge.  The Company may enter into derivative contracts that are intended to economically hedge certain of its risks, even though hedge accounting does not apply or the Company elects not to apply hedge accounting.

Risk Management Objective of Using Derivatives

The Company has an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility.  By using derivative instruments, the Company is exposed to credit and market risk.  If the counterparty fails to perform, credit risk is equal to the extent of the fair value gain in the derivative.  The Company minimizes the credit risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed periodically by the Company.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

Fair Values of Derivative Instruments on the Balance Sheet

The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

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Cash Flow Hedges of Interest Rate Risk

The Company’s objectives in using interest rate derivatives are to add stability to interest income and expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps and floors as part of its interest rate risk management strategy.  For hedges of the Company’s variable-rate loan assets, interest rate swaps designated as cash flow hedges involve the receipt of fixed-rate amounts from a counterparty in exchange for the Company making variable-rate payments over the life of the agreements without exchange of the underlying notional amount.  For hedges of the Company’s variable-rate loan assets, the interest rate floors designated as a cash flow hedge involves the receipt of variable-rate amounts from a counterparty if interest rates fall below the strike rate on the contract in exchange for an up front premium.  The Company had an interest rate swap contract that expired in June 2011.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in “Accumulated Other Comprehensive Income” and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings.  Such derivatives were used to hedge the variable cash inflows associated with existing pools of prime-based loan assets during 2011.  The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings.  The Company’s derivatives did not have any hedge ineffectiveness recognized in earnings during the nine months ended September 30, 2012 and 2011.

Effect of Derivative Instruments on the Income Statement

The table below presents the effect of the Company’s derivative financial instruments on the statement of earnings for the nine months ended September 30, 2012 and 2011.

(Dollars in thousands)
		Amount of Gain			Location of Gain		Amount of Gain
		(Loss) Recognized in			(Loss) Reclassified		(Loss) Reclassified
		Accumulated OCI on			from Accumulated		from Accumulated
		Derivatives			OCI into Income		OCI into Income
		Nine months ended					Nine months ended
		September 30,					September 30,
		2012		2011			2012	2011
Interest rate derivative contracts	$	-	$	(20)	Interest income	$	-	$	628

(8) TARP Repurchase

On July 3, 2012, the Company purchased 12,530 shares of the Company’s 25,054 outstanding shares of preferred stock from the UST, which was issued to UST in connection with the Company’s participation in the CPP under the TARP in 2008.  The shares were purchased for $933.36 per share, for a total purchase price of $11,778,575.90, including $83,575.10 accrued and unpaid dividends on the preferred stock.  The Company retired the 12,530 shares purchased.  The $834,999.20 difference between the $12,530,000 face value of the preferred stock retired and the $11,695,000.80 purchase price of the preferred stock retired was credited to retained earnings.

On August 8, 2012, the Company completed its repurchase of the warrant (the “Warrant”) to purchase 357,234 shares of the Company's common stock that was issued to the UST on December 23, 2008 as part of the CPP under TARP.  The Company repurchased the Warrant for a total price of $425,000.

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

The following is a discussion of our financial position and results of operations and should be read in conjunction with the information set forth under Item 1A Risk Factors and the Company’s Consolidated Financial Statements and Notes thereto on pages A-28  through A-63 of the Company’s 2011 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 3, 2012 Annual Meeting of Shareholders.

Introduction

Management’s discussion and analysis of earnings and related data are presented to assist in understanding the consolidated financial condition and results of operations of the Company. The Company is the parent company of the Bank and a registered bank holding company operating under the supervision of the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Bank is a North Carolina-chartered bank, with offices in Catawba, Lincoln, Alexander, Mecklenburg, Iredell, Union and Wake counties, operating under the banking laws of North Carolina and the rules and regulations of the Federal Deposit Insurance Corporation (the “FDIC”).

Overview

Our business consists principally of attracting deposits from the general public and investing these funds in commercial loans, real estate mortgage loans, real estate construction loans and consumer loans. Our profitability depends primarily on our net interest income, which is the difference between the income we receive on our loan and investment securities portfolios and our cost of funds, which consists of interest paid on deposits and borrowed funds. Net interest income also is affected by the relative amounts of our interest-earning assets and interest-bearing liabilities. When interest-earning assets approximate or exceed interest-bearing liabilities, a positive interest rate spread will generate net interest income. Our profitability is also affected by the level of other income and operating expenses. Other income consists primarily of miscellaneous fees related to our loans and deposits, mortgage banking income and commissions from sales of annuities and mutual funds. Operating expenses consist of compensation and benefits, occupancy related expenses, federal deposit and other insurance premiums, data processing, advertising and other expenses.

Our operations are influenced significantly by local economic conditions and by policies of financial institution regulatory authorities. The earnings on our assets are influenced by the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve, inflation, interest rates, market and monetary fluctuations.  Lending activities are affected by the demand for commercial and other types of loans, which in turn is affected by the interest rates at which such financing may be offered.  Our cost of funds is influenced by interest rates on competing investments and by rates offered on similar investments by competing financial institutions in our market area, as well as general market interest rates. These factors can cause fluctuations in our net interest income and other income. In addition, local economic conditions can impact the credit risk of our loan portfolio, in that (1) local employers may be required to eliminate employment positions of individual borrowers, and (2) small businesses and commercial borrowers may experience a downturn in their operating performance and become unable to make timely payments on their loans. Management evaluates these factors in estimating its allowance for loan losses and changes in these economic factors could result in increases or decreases to the provision for loan losses.

Economic conditions in 2012 continue to have a negative impact on our financial condition and results of operations.  Unfavorable economic indicators, such as high unemployment, falling real estate prices and higher than normal levels of loan defaults demonstrate the difficult business conditions that are affecting the general economy and therefore our operating results.  The unemployment rates in our primary market area continue to be higher than state and national averages.

On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) into law. This new legislation makes extensive changes to the laws regulating financial products and services as well as firms and companies offering financial products and services. The Dodd-Frank Act also alters certain corporate governance matters affecting public companies. The legislation requires substantial rulemaking and mandates numerous additional studies, the results of which could impact future legislative and regulatory action. We continue to evaluate this legislation including its related rules and regulations, and we are assessing the extent to which it will impact our current and future operations. Among other things that could have an impact on our operations and activities, the Dodd-Frank Act (i) amends the manner for calculating the assessment base for deposit insurance premiums paid to the FDIC; (ii) requires the federal banking agencies to issue new rules to implement new minimum leverage and risk-based capital requirements for insured depository institutions; and (iii) requires the Securities and Exchange Commission to complete studies and develop rules or approve stock exchange rules regarding various investor protection issues, including shareholder access to the proxy process, and various matters pertaining to executive compensation and compensation committee oversight. Additionally, the Dodd-Frank Act establishes the Consumer Financial Protection Bureau (“Bureau”) as an independent federal agency, which has broad rulemaking, supervisory and enforcement authority over financial institutions providing consumer financial products and services. Examples of such products and services include deposit products, residential mortgages, home-equity loans and credit cards. Under the Dodd-Frank Act, states are permitted to adopt more stringent consumer protection laws, and state attorneys general can enforce those laws as well as consumer protection rules issued by the Bureau.

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While we are unable to determine all ramifications of the Dodd-Frank Act at this time, we expect that many of the requirements called for in the Dodd-Frank Act will be implemented over time, and most will be subject to implementing regulations over the course of several years.  Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies, the full extent of the impact of such requirements will have on financial institutions’ operations is unclear. The changes resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business.  These changes may also require us to invest significant management attention and resources to evaluate and make necessary changes in order to comply with new statutory and regulatory requirements.

Although we are unable to control the external factors that influence our business, by maintaining high levels of balance sheet liquidity, managing our interest rate exposures and by actively monitoring asset quality, we seek to minimize the potentially adverse risks of unforeseen and unfavorable economic trends.

Our business emphasis has been to operate as a well-capitalized, profitable and independent community-oriented financial institution dedicated to providing quality customer service. We are committed to meeting the financial needs of the communities in which we operate. We believe that we can be more effective in servicing our customers than many of our non-local competitors because of our ability to quickly and effectively provide senior management responses to customer needs and inquiries. Our ability to provide these services is enhanced by the stability of our senior management team.

The Federal Reserve has maintained the Federal Funds Rate at 0.25% since December 2008.  This historically low rate has had a negative impact on earnings and will continue to have a negative impact on our net interest income in future periods.  The negative impact of low interest rates has been partially offset by earnings realized on interest rate contracts utilized by the Bank.  Additional information regarding the Bank’s interest rate contacts is provided below in the section entitled “Asset Liability and Interest Rate Risk Management.”

On December 23, 2008, the Company entered into a Securities Purchase Agreement (“Purchase Agreement”) with the UST pursuant to the CPP under TARP.  Under the Purchase Agreement, the Company agreed to issue and sell 25,054 shares of Series A preferred stock and a Warrant to purchase 357,234 shares of the Company’s common stock.  Proceeds from this issuance of Series A preferred shares were allocated between preferred stock and the Warrant based on their relative fair values at the time of the sale.  Of the $25.1 million in proceeds, $24.4 million was allocated to the Series A preferred stock and $704,000 was allocated to the Warrant.  The discount recorded on the Series A preferred stock that resulted from allocating a portion of the proceeds to the Warrant is being accreted directly to retained earnings over a five-year period applying a level yield.  As of September 30, 2012, the Company has accreted a total of $478,000 of the discount related to the Series A preferred stock.

The Series A preferred stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum for the first five years and 9% per annum thereafter.  The Series A preferred stock may be redeemed at the stated amount of $1,000 per share plus any accrued and unpaid dividends.  Under the terms of the original Purchase Agreement, the Company could not redeem the Series A preferred shares until December 23, 2011 unless the total amount of the issuance, $25.1 million, was replaced with the same amount of other forms of capital that would qualify as Tier 1 capital.  However, with the enactment of the American Recovery and Reinvestment Act of 2009 (“ARRA”), the Company can now redeem the Series A preferred shares at any time, if approved by the Company’s primary regulator.  The Series A preferred stock is non-voting except for class voting rights on matters that would adversely affect the rights of the holders of the Series A preferred stock.

The UST sold all of the Company’s CPP preferred stock in a public auction during the second quarter of 2012, and, as a result, the Company is no longer subject to the executive compensation and corporate governance standards imposed by TARP.  The Company purchased 12,530 shares of the Company’s 25,054 outstanding shares of preferred stock from the UST, which was issued to the UST in connection with the Company’s participation in the CPP under TARP in 2008.  The shares were purchased for $933.36 per share, for a total purchase price of $11,778,575.90, including $83,575.10 accrued and unpaid dividends on the preferred stock.  The Company retired the 12,530 shares purchased.  The $834,999.20 difference between the $12,530,000 face value of the preferred stock retired and the $11,695,000.80 purchase price of the preferred stock retired was credited to retained earnings effective June 30, 2012.  Remaining preferred shares are redeemable at any time at par.  The Company expects to be able to repurchase the shares from future earnings, however, there are no immediate plans to repurchase these shares.

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On August 8, 2012, the Company completed its repurchase of the Warrant to purchase 357,234 shares of the Company's common stock that was issued to the UST on December 23, 2008, as part of the CPP under TARP.  The Company repurchased the Warrant for a total price of $425,000.  The exercise price of the Warrant was $10.52 per common share and was exercisable at anytime on or before December 18, 2018.

Summary of Significant Accounting Policies

The Company’s accounting policies are fundamental to understanding management’s discussion and analysis of results of operations and financial condition.  Many of the Company’s accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of specific accounting guidance.  A more complete description of the Company’s significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company’s 2011 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 3, 2012 Annual Meeting of Shareholders.

Many of the Company’s assets and liabilities are recorded using various techniques that require significant judgment as to recoverability.  The collectibility of loans is reflected through the Company’s estimate of the allowance for loan losses.  The Company performs periodic and systematic detailed reviews of its lending portfolio to assess overall collectibility.  In addition, certain assets and liabilities are reflected at their estimated fair value in the consolidated financial statements.  Such amounts are based on either quoted market prices or estimated values derived from dealer quotes used by the Company, market comparisons or internally generated modeling techniques.  The Company’s internal models generally involve present value of cash flow techniques.  The various techniques are discussed in greater detail elsewhere in management’s discussion and analysis and the Notes to the Consolidated Financial Statements.

There are other complex accounting standards that require the Company to employ significant judgment in interpreting and applying certain of the principles prescribed by those standards.  These judgments include, but are not limited to, the determination of whether a financial instrument or other contract meets the definition of a derivative in accordance with GAAP.

The disclosure requirements for derivatives and hedging activities have the intent to provide users of financial statements with an enhanced understanding of: (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. The disclosure requirements include qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about the fair value of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative instruments.

The Company records all derivatives on the balance sheet at fair value.  The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge.  The Company may enter into derivative contracts that are intended to economically hedge certain of its risks, even though hedge accounting does not apply or the Company elects not to apply hedge accounting.

The Company has an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility.  By using derivative instruments, the Company is exposed to credit and market risk.  If the counterparty fails to perform, credit risk is equal to the extent of the fair-value gain in the derivative.  The Company minimizes the credit risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed periodically by the Company.  The Company had an interest rate swap contract that expired in June 2011.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012.

The Company’s objectives in using interest rate derivatives are to add stability to interest income and expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps and floors as part of its interest rate risk management strategy.  For hedges of the Company’s variable-rate loan assets, interest rate swaps designated as cash flow hedges involve the receipt of fixed-rate amounts from a counterparty in exchange for the Company making variable-rate payments over the life of the agreements without exchange of the underlying notional amount.  For hedges of the Company’s variable-rate loan assets, the interest rate floor designated as a cash flow hedge involves the receipt of variable-rate amounts from a counterparty if interest rates fall below the strike rate on the contract in exchange for an up front premium.

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The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in “Accumulated Other Comprehensive Income” and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings.  Such derivatives were used to hedge the variable cash inflows associated with existing pools of prime-based loan assets during 2011.  The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings.  The Company’s derivatives did not have any hedge ineffectiveness recognized in earnings during the nine months ended September 30, 2012 and 2011.

The table below presents the effect of the Company’s derivative financial instruments on the consolidated statement of earnings for the nine months ended September 30, 2012 and 2011.

(Dollars in thousands)
		Amount of Gain			Location of Gain		Amount of Gain
		(Loss) Recognized in			(Loss) Reclassified		(Loss) Reclassified
		Accumulated OCI on			from Accumulated		from Accumulated
		Derivatives			OCI into Income		OCI into Income
		Nine months ended					Nine months ended
		September 30,					September 30,
		2012	2011				2012	2011
Interest rate derivative contracts	$	-	$	(20)	Interest income	$	-	$	628

GAAP establishes a framework for measuring fair value and expands disclosures about fair value measurements.  There is a three-level fair value hierarchy for fair value measurements.  Level 1 inputs are quoted prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.   The tables below present the balance of securities available for sale and mortgage loans held for sale, which are measured at fair value on a recurring basis by level within the fair value hierarchy as of September 30, 2012 and December 31, 2011.

(Dollars in thousands)
	September 30, 2012
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	160,086	-	160,086	-
U.S. Government
sponsored enterprises	$	1,294	-	1,294	-
State and political subdivisions	$	116,149	-	116,149	-
Corporate bonds	$	1,551	-	1,551	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,455	1,455	-	-
Mortgage loans held for sale	$	5,984	-	-	5,984

(Dollars in thousands)
	December 31, 2011
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	213,693	-	208,349	5,344
U.S. Government
sponsored enterprises	$	7,694	-	7,694	-
State and political subdivisions	$	97,097	-	97,097	-
Corporate bonds	$	543	-	543	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,111	1,111	-	-
Mortgage loans held for sale	$	5,146	-	-	5,146

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Fair values of investment securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges when available.  If quoted prices are not available, fair value is determined using matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities.  Fair values of derivative instruments are determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities.

The following is an analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs, for the nine months ended September 30, 2012:

(Dollars in thousands)
	Investment Securities Available for Sale
	Level 3 Valuation
Balance, beginning of period	$	6,594
Change in book value		-
Change in gain/(loss) realized and unrealized		-
Purchases/(sales)		-
Transfers in and/or (out) of Level 3		(5,344	)
Balance, end of period	$	1,250
Change in unrealized gain/(loss) for assets still held in Level 3	$	-

The Company’s September 30, 2012 and December 31, 2011 fair value measurement for impaired loans and other real estate on a non-recurring basis is presented below:

(Dollars in thousands)
	Fair Value Measurements September 30, 2012		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Nine Months Ended September 30, 2012
Impaired loans	$	57,495	-	-	57,495	(5,408	)
Other real estate	$	6,595	-	-	6,595	(710	)

(Dollars in thousands)
	Fair Value Measurements December 31, 2011		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Year Ended December 31, 2011
Impaired loans	$	49,901	-	431	49,470	(11,864	)
Other real estate	$	7,576	-	-	7,576	(1,322	)

At each reporting period, the Bank determines which loans are impaired.  Accordingly, the Bank’s impaired loans are reported at their estimated fair value on a non-recurring basis.  An allowance for each impaired loan, which is generally collateral-dependent, is calculated based on the fair value of its collateral.  The fair value of the collateral is based on appraisals performed by REAS, a subsidiary of the Bank.  REAS is staffed by certified appraisers that also perform appraisals for other companies.   Factors including the assumptions and techniques utilized by the appraiser are considered by management.  If the recorded investment in the impaired loan exceeds the measure of fair value of the collateral, a valuation allowance is recorded as a component of the allowance for loan losses.  Impaired loans under $250,000 are not individually evaluated for impairment, with the exception of the Bank’s TDR loans in the residential mortgage loan portfolio, which are individually evaluated for impairment.  Accruing impaired loans were $38.7 million, $21.1 million and $30.6 million at September 30, 2012, September 30, 2011 and December 31, 2011, respectively.  Interest income recognized on accruing impaired loans was $1.4 million, $897,000 and $1.7 million for the nine months ended September 30, 2012, the nine months ended September 30, 2011 and the year ended December 31, 2011, respectively.  No interest income is recognized on non-accrual impaired loans subsequent to their classification as impaired.

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Results of Operations

Summary.  Net earnings for the third quarter of 2012 were $1.4 million, or $0.25 basic and diluted net earnings per share before adjustment for preferred stock dividends and accretion as compared to $1.4 million, or $0.25 basic and diluted net earnings per share before adjustment for preferred stock dividends and accretion for the same period one year ago.  After adjusting for dividends and accretion on preferred stock, net earnings available to common shareholders for the three months ended September 30, 2012 were $1.3 million, or $0.23 basic and diluted net earnings per common share as compared to $1.0 million, or $0.19 basic and diluted net earnings per common share for the same period one year ago.  The increase in third quarter earnings is attributable to a decrease in the provision for loan losses, which was partially offset by a decrease in net interest income, a decrease in non-interest income and an increase in non-interest expense.

The annualized return on average assets was 0.55% for the three months ended September 30, 2012 compared to 0.51% for the same period one year ago, and annualized return on average shareholders’ equity was 5.80% for the three months ended September 30, 2012 compared to 5.31% for the same period one year ago.

Year-to-date net earnings as of September 30, 2012 were $4.6 million, or $0.83 basic and diluted net earnings per share before adjustment for preferred stock dividends and accretion, as compared to $3.4 million, or $0.61 basic and diluted net earnings per share before adjustment for preferred stock dividends and accretion, for the same period one year ago.  After adjusting for dividends and accretion on preferred stock, net earnings available to common shareholders for the nine months ended September 30, 2012 were $3.7 million or $0.67 basic and diluted net earnings per common share as compared to $2.3 million, or $0.42 basic and diluted net earnings per common share, for the same period one year ago.  The increase in year-to-date earnings is primarily attributable to aggregate decreases in the provision for loan losses, which were partially offset by aggregate decreases in net interest income and non-interest income and aggregate increases in non-interest expense, as discussed below.

The annualized return on average assets was 0.59% for the nine months ended September 30, 2012 compared to 0.46% for the same period in 2011, and annualized return on average shareholders’ equity was 5.86% for the nine months ended September 30, 2012 compared to 4.49% for the same period in 2011.

Net Interest Income.  Net interest income, the major component of the Company’s net earnings, was $7.8 million for the three months ended September 30, 2012 compared to $8.6 million for the same period one year ago.  This decrease was primarily due to a decrease in interest income resulting from reduction in average loans and investment securities and a decrease in the yield on earning assets, which were partially offset by a decrease in interest expense due to areduction in the cost of funds and a reduction in interest-bearing liabilities.

Interest income decreased $1.6 million or 14% for the three months ended September 30, 2012 compared to the same period one year ago.  The decrease was due to a reduction in average loans and investment securities and a decrease in the yield on earning assets.  The average yield on earning assets for the quarters ended September 30, 2012 and 2011 was 4.22% and 4.57%, respectively.  During the quarter ended September 30, 2012, average loans decreased $47.7 million to $639.4 million from $687.1 million for the three months ended September 30, 2011.  During the quarter ended September 30, 2012, average investment securities available for sale decreased $34.9 million to $278.9 million from $313.8 million for the three months ended September 30, 2011.  This decrease reflects investment securities sold during the nine months ended September 30, 2012, totaling $47.0 million, which were partially offset by purchases of investment securities.

Interest expense decreased $831,000 or 31% for the three months ended September 30, 2012 compared with the same period one year ago due to lower cost of funds and a reduction in certificates of deposit.  The average rate paid on interest-bearing checking and savings accounts was 0.31% for the three months ended September 30, 2012 as compared to 0.59% for the same period one year ago.  The average rate paid on certificates of deposits was 1.09% for the three months ended September 30, 2012 compared to 1.39% for the same period one year ago.  During the quarter ended September 30, 2012, average certificates of deposit decreased $77.8 million to $269.4 million from $347.2 million for the three months ended September 30, 2011.

The following table sets forth for each category of interest-earning assets and interest-bearing liabilities, the average amounts outstanding, the interest incurred on such amounts and the average rate earned or incurred for the three months ended September 30, 2012 and 2011. The table also sets forth the average rate earned on total interest-earning assets, the average rate paid on total interest-bearing liabilities, and the net yield on average total interest-earning assets for the same periods.  Yield information does not give effect to changes in fair value that are reflected as a component of shareholders’ equity.  Yields and interest income on tax-exempt investments have been adjusted to tax equivalent basis using an effective tax rate of 38.55% for securities that are both federal and state tax exempt and an effective tax rate of 6.90% for state tax exempt securities.  Non-accrual loans and the interest income that was recorded on these loans, if any, are included in the yield calculations for loans in all periods reported.

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	Three months ended						Three months ended
	September 30, 2012						September 30, 2011
(Dollars in thousands)	Average Balance			Interest		Yield / Rate	Average Balance		Interest	Yield / Rate
Interest-earning assets:
Interest and fees on loans	$	639,402			8,170	5.08%	687,086		8,921	5.15%
Investments - taxable		175,697			575	1.30%	185,974		1,338	2.85%
Investments - nontaxable*		109,459			1,320	4.80%	134,530		1,451	4.28%
Other		25,978			15	0.23%	8,471		4	0.21%
Total interest-earning assets		950,536			10,080	4.22%	1,016,061		11,714	4.57%
Cash and due from banks		25,485					24,003
Other assets		55,224					51,201
Allowance for loan losses		(16,911	)				(16,192	)
Total assets	$	1,014,334					1,075,073
Interest-bearing liabilities:
NOW, MMDA & savings deposits	$	348,680			274	0.31%	347,278		517	0.59%
Time deposits		269,369			737	1.09%	347,187		1,221	1.39%
FHLB / FRB borrowings		70,000			689	3.92%	70,000		761	4.31%
Trust preferred securities		20,619			110	2.12%	20,619		100	1.92%
Other		49,320			32	0.26%	47,909		74	0.62%
Total interest-bearing liabilities		757,988			1,842	0.97%	832,993		2,673	1.27%
Demand deposits		154,434					135,835
Other liabilities		5,427					4,317
Shareholders' equity		96,940					101,937
Total liabilities and shareholder's equity	$	1,014,789					1,075,082
Net interest spread				$	8,238	3.25%			9,041	3.30%
Net yield on interest-earning assets						3.45%				3.53%
Taxable equivalent adjustment
Investment securities				$	425				423
Net interest income				$	7,813				8,618
*Includes U.S. Government agency securities that are non-taxable for state income tax purposes of $2.7 million in 2012 and $45.1 million in 2011. An effective tax rate of 6.90% was used to calculate the tax equivalent yield on these securities.

Year-to-date net interest income as of September 30, 2012 decreased 7% to $23.8 million compared to $25.7 million for the same period one year ago.   This decrease is primarily attributable to a decrease in interest income resulting from a reduction in average loans and a decrease in the yield on earning assets, which were partially offset by a decrease in interest expense due to areduction in the cost of funds and a reduction in interest-bearing liabilities.

Interest income decreased $4.4 million or 13% for the nine months ended September 30, 2012 compared with the same period in 2011.  This decrease was primarily due to a reduction in average loans and a decrease in the yield on earning assets.  The average yield on earning assets for the nine months ended September 30, 2012 and 2011 was 4.26% and 4.69%, respectively.  During the nine months ended September 30, 2012, average loans decreased $49.2 million to $655.1 million from $704.3 million for the nine months ended September 30, 2011.  During the nine months ended September 30, 2012, average investment securities available for sale increased $2.5 million to $292.1 million from $289.6 million for the nine months ended September 30, 2011 primarily due to the investment of additional funds received from loan repayments outpacing new loans disbursed.

Interest expense decreased $2.5 million or 29% for the nine months ended September 30, 2012 compared with the same period in 2011 primarily due to lower cost of funds and a reduction in certificates of deposit.  The average rate paid on interest-bearing checking and savings accounts was 0.35% for the nine months ended September 30, 2012 as compared to 0.72% for the same period of 2011.  The average rate paid on certificates of deposits was 1.21% for the nine months ended September 30, 2012 compared to 1.44% for the same period one year ago.  Average certificates of deposit decreased $71.2 million to $291.8 million for the nine months ended September 30, 2012 from $363.0 million for the nine months ended September 30, 2011.

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The following table sets forth for each category of interest-earning assets and interest-bearing liabilities, the average amounts outstanding, the interest incurred on such amounts and the average rate earned or incurred for the nine months ended September 30, 2012 and 2011. The table also sets forth the average rate earned on total interest-earning assets, the average rate paid on total interest-bearing liabilities, and the net yield on average total interest-earning assets for the same periods.  Yield information does not give effect to changes in fair value that are reflected as a component of shareholders’ equity.  Yields and interest income on tax-exempt investments have been adjusted to tax equivalent basis using an effective tax rate of 38.55% for securities that are both federal and state tax exempt and an effective tax rate of 6.90% for state tax exempt securities.  Non-accrual loans and the interest income that was recorded on these loans, if any, are included in the yield calculations for loans in all periods reported.

	Nine months ended						Nine months ended
	September 30, 2012						September 30, 2011
(Dollars in thousands)	Average Balance			Interest		Yield / Rate	Average Balance		Interest	Yield / Rate
Interest-earning assets:
Interest and fees on loans	$	655,051			24,822	5.06%	704,263		27,695	5.26%
Investments - taxable		196,007			2,430	1.66%	160,137		3,362	2.81%
Investments - nontaxable*		102,572			3,770	4.91%	136,525		4,487	4.39%
Other		20,067			34	0.23%	12,204		19	0.20%
Total interest-earning assets		973,697			31,056	4.26%	1,013,129		35,563	4.69%
Cash and due from banks		24,505					23,700
Other assets		55,510					49,628
Allowance for loan losses		(17,026	)				(15,655	)
Total assets	$	1,036,686					1,070,802
Interest-bearing liabilities:
NOW, MMDA & savings deposits	$	349,378			913	0.35%	341,277		1,836	0.72%
Time deposits		291,784			2,632	1.21%	363,046		3,901	1.44%
FHLB / FRB borrowings		70,467			2,064	3.91%	70,037		2,258	4.31%
Trust preferred securities		20,619			332	2.15%	20,619		300	1.95%
Other		46,924			105	0.30%	42,378		231	0.74%
Total interest-bearing liabilities		779,172			6,046	1.04%	837,357		8,526	1.36%
Demand deposits		150,501					130,209
Other liabilities		4,681					4,036
Shareholders' equity		104,355					100,587
Total liabilities and shareholder's equity	$	1,038,709					1,072,189
Net interest spread				$	25,010	3.22%			27,037	3.33%
Net yield on interest-earning assets						3.43%				3.57%
Taxable equivalent adjustment
Investment securities				$	1,204				1,293
Net interest income				$	23,806				25,744
*Includes U.S. Government agency securities that are non-taxable for state income tax purposes of $4.0 million in 2012 and $47.6 million in 2011. An effective tax rate of 6.90% was used to calculate the tax equivalent yield on these securities.

Changes in interest income and interest expense can result from variances in both volume and rates.  The following table presents the impact on the Company’s tax equivalent net interest income resulting from changes in average balances and average rates for the periods indicated.  The changes in interest due to both volume and rate have been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the changes in each.

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	Three months ended September 30, 2012							Nine months ended September 30, 2012
	compared to three months ended September 30, 2011							compared to nine months ended September 30, 2011
(Dollars in thousands)	Changes in average volume			Changes in average rates		Total Increase (Decrease)		Changes in average volume		Changes in average rates		Total Increase (Decrease)
Interest income:
Loans: Net of unearned income	$	(614	)	(137	)	(751	)	(1,900	)	(973	)	(2,873	)
Investments - taxable		(55	)	(708	)	(763	)	599		(1,531	)	(932	)
Investments - nontaxable		(285	)	154		(131	)	(1,182	)	465		(717	)
Other		10		1		11		12		3		15
Total interest income		(944	)	(690	)	(1,634	)	(2,471	)	(2,036	)	(4,507	)
Interest expense:
NOW, MMDA & savings deposits		1		(244	)	(243	)	(915	)	(8	)	(923	)
Time deposits		(243	)	(241	)	(484	)	(704	)	(565	)	(1,269	)
FHLB / FRB Borrowings		0		(72	)	(72	)	13		(207	)	(194	)
Trust Preferred Securities		-		10		10		-		32		32
Other		1		(43	)	(42	)	17		(143	)	(126	)
Total interest expense		(241	)	(590	)	(831	)	(1,589	)	(891	)	(2,480	)
Net interest income	$	(703	)	(100	)	(803	)	(882	)	(1,145	)	(2,027	)

Provision for Loan Losses. For the three months ended September 30, 2012, a contribution of $761,000 was made to the provision for loan losses compared to a $3.4 million contribution to the provision for loan losses for the three months ended September 30, 2011.  The decrease in the provision for loan losses is primarily attributable to a $2.2 million decrease in net charge-offs during the third quarter of 2012 compared to the third quarter of 2011 and an $8.7 million reduction in non-accrual loans from September 30, 2011 to September 30, 2012.

The provision for loan losses for the nine months ended September 30, 2012 was $4.4 million as compared to $9.7 million for the same period one year ago.  The decrease in the provision for loan losses is primarily attributable to a $4.4 million decrease in net charge-offs during the nine months ended September 30, 2012 compared to the same period one year ago and an $8.7 million reduction in non-accrual loans from September 30, 2011 to September 30, 2012.

Non-Interest Income.  Total non-interest income was $2.9 million for the three months ended September 30, 2012, as compared to $3.7 million for the same period one year ago.  This decrease is primarily attributable to a $1.2 million decrease in the gains on sale of securities, which was partially offset by a $169,000 increase in mortgage banking income and a $93,000 increase in income from the Company’s subsidiary, Community Bank Real Estate Solutions (“CBRES”), for the three months ended September 30, 2012, as compared to the same period one year ago.

Non-interest income was $9.9 million for the nine months ended September 30, 2012, as compared to $10.0 million for the same period one year ago.  This decrease is primarily attributable to a $1.3 million decrease in the gains on sale of securities, which was partially offset by a $316,000 reduction in losses and write-downs on foreclosed properties, a $282,000 increase in income from the Company’s subsidiary, CBRES, and a $262,000 increase in mortgage banking income for the nine months ended September 30, 2012, as compared to the same period one year ago.

 Non-Interest Expense.  Total non-interest expense was $8.2 million for the three months ended September 30, 2012, as compared to $7.2 million for the same period one year ago.  This increase is primarily due to a $698,000 increase in salaries and benefits expense and a $337,000 increase in non-interest expenses other than salary, employee benefits and occupancy expenses for the three months ended September 30, 2012, as compared to the same period one year ago.  The increase in salaries and benefits expense was primarily due to salary increases in 2012 and bonuses accrued in the third quarter of 2012, along with an increase in commissions on mortgage and real estate appraisal sales.  The increase in non-interest expenses other than salary, employee benefits and occupancy expenses included $62,000 in expenses associated with the Company’s purchase of its preferred stock and the Warrant from the UST, which was issued to the UST in connection with the Company’s participation in the CPP under TARP in 2008.

Non-interest expense was $23.3 million for the nine months ended September 30, 2012, as compared to $21.9 million for the same period one year ago.  This increase is primarily due to a $1.1 million increase in salaries and benefits expense and a $337,000 increase in non-interest expenses other than salary, employee benefits and occupancy expenses for the nine months ended September 30, 2012, as compared to the same period one year ago.  The increase in salaries and benefits expense was primarily due to salary increases in 2012 and bonuses accrued in the third quarter of 2012, along with an increase in commissions on mortgage and real estate appraisal sales.  The increase in non-interest expenses other than salary, employee benefits and occupancy expenses included $230,000 in expenses associated with the Company’s purchase of its preferred stock and the Warrant from the UST, which was issued to the UST in connection with the Company’s participation in the CPP under TARP in 2008.

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Income Taxes.  The Company reported income tax expense of $369,000  and $406,000 for the three months ended September 30, 2012 and 2011, respectively.  This represented an effective tax rate of 21% and 23% for the respective periods.

The Company reported income taxes of $1.4 million and $755,000 for the nine months ended September 30, 2012 and 2011, respectively.  This represented an effective tax rate of 23% and 18% for the respective periods.   The 2012 and 2011 effective tax rates are lower than historical levels due to increases in tax exempt investment income, which has a greater impact on the effective tax rate on the reduced level of earnings before income taxes experienced in 2012 and 2011.

Analysis of Financial Condition

Investment Securities.  Available for sale securities were $281.8 million at September 30, 2012 compared to $321.4 million at December 31, 2011.  Average investment securities available for sale for the nine months ended September 30, 2012 were $292.1 million compared to $295.4 million for the year ended December 31, 2011.

Loans.  At September 30, 2012, loans were $625.8 million compared to $670.5 million at December 31, 2011, a decrease of $44.7 million.  This decrease reflects a decline in loan originations combined with continuing payments on existing loans. Loans originated or renewed during the nine months ended September 30, 2012, amounting to approximately $64.9 million, were offset by paydowns and payoffs of existing loans.  Average loans represented 67% and 70% of average earning assets for the nine months ended September 30, 2012 and the year ended December 31, 2011, respectively.  The Company had $6.0 million and $5.1 million in mortgage loans held for sale as of September 30, 2012 and December 31, 2011, respectively.

Although the Company has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by real estate, which is dependent upon the real estate market.  Real estate mortgage loans include both commercial and residential mortgage loans.  At September 30, 2012, the Company had $110.4 million in residential mortgage loans, $87.6 million in home equity loans and $261.4 million in commercial mortgage loans, which include $208.6 million secured by commercial property and $52.8 million secured by residential property.   Residential mortgage loans include $57.8 million made to customers in the Company’s traditional banking offices and $52.6 million in mortgage loans originated in the Company’s Latino banking offices.  All residential mortgage loans are originated as fully amortizing loans, with no negative amortization.

At September 30, 2012, the Company had $80.7 million in construction and land development loans.  The following table presents a breakout of these loans.

(Dollars in thousands)
	Number of Loans	Balance Outstanding		Non-accrual Balance
Land acquisition and development - commercial purposes	69	$	17,706	$	2,124
Land acquisition and development - residential purposes	318		53,472		8,742
1 to 4 family residential construction	24		6,498		-
Commercial construction	5		3,057		-
Total construction and land development	416	$	80,733	$	10,866

At September 30, 2012, TDR loans were $21.8 million, including $1.8 million in performing TDR loans.  Effective March 31, 2012, performing TDR balances reflect current year TDR loans only, in accordance with GAAP.  Previously reported TDR amounts reflect cumulative TDR loans from prior periods in addition to current year TDR loans.  At December 31, 2011, TDR loans were $44.1 million, including $15.1 million in performing TDR loans.   The terms of these loans have been renegotiated to provide a reduction in principal or interest as a result of the deteriorating financial position of the borrower.

Allowance for Loan Losses.  The allowance for loan losses reflects management’s assessment and estimate of the risks associated with extending credit and its evaluation of the quality of the loan portfolio.  We periodically analyze the loan portfolio in an effort to review asset quality and to establish an allowance for loan losses that management believes will be adequate in light of anticipated risks and loan losses.  In assessing the adequacy of the allowance, size, quality and risk of loans in the portfolio are reviewed. Other factors considered are:

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·   our loan loss experience;

·   the amount of past due and non-performing loans;

·   specific known risks;

·   the status and amount of other past due and non-performing assets;

·   underlying estimated values of collateral securing loans;

·   current and anticipated economic conditions; and

·   other factors which management believes affect the allowance for potential credit losses.

Management uses several measures to assess and monitor the credit risks in the loan portfolio, including a loan grading system that begins upon loan origination and continues until the loan is collected or collectibility becomes doubtful. Upon loan origination, the originating loan officer evaluates the quality of the loan and assigns one of nine risk grades. The loan officer monitors the loan’s performance and credit quality and makes changes to the credit grade as conditions warrant. When originated or renewed, all loans over a certain dollar amount receive in-depth reviews and risk assessments by our Credit Administration department. Before making any changes in these risk grades, management considers assessments as determined by the third party credit review firm (as described below), regulatory examiners and the  Credit Administration department. Any issues regarding the risk assessments are addressed by our senior credit administrators and factored into management’s decision to originate or renew the loan.

As an additional measure, we engage an independent third party to review the underwriting, documentation and risk grading analyses. This independent third party reviews and evaluates all loan relationships greater than $1.0 million.  The third party’s evaluation and report is shared with management and the Bank’s Board of Directors.

Management considers certain commercial loans with weak credit risk grades to be individually impaired and measures such impairment based upon available cash flows and the value of the collateral. Allowance or reserve levels are estimated for all other graded loans in the portfolio based on their assigned credit risk grade, type of loan and other matters related to credit risk.

Management uses the information developed from the procedures described above in evaluating and grading the loan portfolio. This continual grading process is used to monitor the credit quality of the loan portfolio and to assist management in estimating the allowance for loan losses.

The allowance for loan losses is comprised of three components: specific reserves, general reserves and unallocated reserves.  After a loan has been identified as impaired, management measures impairment.  When the measure of the impaired loan is less than the recorded investment in the loan, the amount of the impairment is recorded as a specific reserve. These specific reserves are determined on an individual loan basis based on management’s current evaluation of the Company’s loss exposure for each credit, given the appraised value of any underlying collateral. Loans for which specific reserves are provided are excluded from the general allowance calculations as described below.  At September 30, 2012 and December 31, 2011, the recorded investment in loans that were considered to be impaired was approximately $57.5 million and $54.7 million, respectively, with related allowance for loan losses of approximately $3.3 million and $4.8 million, respectively.

The general allowance reflects reserves established for collective loan impairment.  These reserves are based upon historical net charge-offs using the last two years’ experience.  This charge-off experience may be adjusted to reflect the effects of current conditions.  We consider information derived from our loan risk ratings and external data related to industry and general economic trends.

The unallocated allowance is determined through management’s assessment of probable losses that are in the portfolio but are not adequately captured by the other two components of the allowance, including consideration of current economic and business conditions and regulatory requirements. The unallocated allowance also reflects management’s acknowledgement of the imprecision and subjectivity that underlie the modeling of credit risk.  Due to the subjectivity involved in determining the overall allowance, including the unallocated portion, this unallocated portion may fluctuate from period to period based on management’s evaluation of the factors affecting the assumptions used in calculating the allowance.

Management considers the allowance for loan losses adequate to cover the estimated losses inherent in the Company’s loan portfolio as of the date of the financial statements. Management believes it has established the allowance in accordance with GAAP and in consideration of the current economic environment. Although management uses the best information available to make evaluations, significant future additions to the allowance may be necessary based on changes in economic and other conditions, thus adversely affecting the operating results of the Company.

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There were no significant changes in the estimation methods or fundamental assumptions used in the evaluation of the allowance for loan losses for the nine months ended September 30, 2012 as compared to the year ended December 31, 2011.  Such revisions, estimates and assumptions are made in any period in which the supporting factors indicate that loss levels may vary from the previous estimates.

Additionally, various regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses. Such agencies may require adjustments to the allowance based on their judgments of information available to them at the time of their examinations.

The allowance for loan losses at September 30, 2012 was $16.6 million or 2.64% of total loans compared to $16.6 million or 2.48% of total loans at December 31, 2011.  We believe we have established the allowance for credit losses pursuant to GAAP, and have taken into account the views of our regulators and the current economic environment.

The following table presents the percentage of loans assigned to each risk grade at September 30, 2012 and December 31, 2011.

	Percentage of Loans
	By Risk Grade
Risk Grade	09/30/2012	12/31/2011
Risk Grade 1 (Excellent Quality)	2.94%	3.12%
Risk Grade 2 (High Quality)	16.69%	16.58%
Risk Grade 3 (Good Quality)	46.65%	49.30%
Risk Grade 4 (Management Attention)	21.75%	19.65%
Risk Grade 5 (Watch)	4.66%	4.76%
Risk Grade 6 (Substandard)	6.90%	6.21%
Risk Grade 7 (Low Substandard)	0.00%	0.00%
Risk Grade 8 (Doubtful)	0.00%	0.00%
Risk Grade 9 (Loss)	0.00%	0.00%

At September 30, 2012, including non-accrual loans, there were nine relationships exceeding $1.0 million (which totaled $16.4 million) in the Watch risk grade, six relationships exceeding $1.0 million in the Substandard risk grade  (which totaled $14.5 million) and no relationships exceeding $1.0 million in the Low Substandard risk grade.  There were three relationships with loans in the Watch risk grade and the Substandard risk grade exceeding $1.0 million total (which totaled $5.1 million).

Non-performing Assets.  Non-performing assets totaled $27.8 million at September 30, 2012 or 2.77% of total assets, compared to $32.1 million at December 31, 2011, or 3.01% of total assets.  Non-accrual loans were $18.8 million at September 30, 2012 and $21.8 million at December 31, 2011.  As a percentage of total loans outstanding, non-accrual loans were 3.01% at September 30, 2012 compared to 3.25% at December 31, 2011.  Non-performing loans include $10.9 million in construction and land development loans, $9.9 million in commercial and residential mortgage loans and $481,000 in other loans at September 30, 2012 as compared to $13.2 million in construction and land development loans, $10.7 million in commercial and residential mortgage loans and $544,000 in other loans as of December 31, 2011.  The Bank had loans 90 days past due and still accruing totaling $2.4 million and $2.7 million as of September 30, 2012 and December 31, 2011, respectively.  Other real estate totaled $6.6 million as of September 30, 2012 as compared to $7.6 million at December 31, 2011. Repossessed assets were $5,000 and $0 as of September 30, 2012 and December 31, 2011, respectively.

           Deposits.  Total deposits at September 30, 2012 were $768.5 million compared to $827.1 million at December 31, 2011. Core deposits, which include non-interest bearing demand deposits, NOW, MMDA, savings and non-brokered certificates of deposits of denominations less than $100,000, were $624.5 million at September 30, 2012 as compared to $633.0 million at December 31, 2011.  Certificates of deposit in amounts greater than $100,000 or more totaled $143.2 million at September 30, 2012 as compared to $193.0 million at December 31, 2011.  This decrease is primarily due to a $25.1 million decrease in brokered certificates of deposit, which included a $8.5 million decrease in certificates of deposit issued through the Certificate of Deposit Account Registry Service (“CDARS”).  At September 30, 2012, brokered deposits were $21.8 million as compared to $47.0 million at December 31, 2011. Brokered deposits outstanding as of September 30, 2012 had a weighted average rate of 0.34% with a weighted average original term of ten months as compared to brokered deposits outstanding at December 31, 2011, which had a weighted average rate of 0.99% with a weighted average original term of 15 months.

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Borrowed Funds. Borrowings from theFHLB totaled $70.0 million at September 30, 2012 and December 31, 2011, respectively.  The average balance of FHLB borrowings for the nine months ended September 30, 2012 was $70.5 million compared to $70.0 million for the year ended December 31, 2011.  At September 30, 2012, all of the Bank’s FHLB borrowings had maturities exceeding one year.  The FHLB has the option to convert $15.0 million of the total advances to a floating rate and, if converted, we may repay the advances without a prepayment fee.

Securities sold under agreements to repurchase were $43.1 million at September 30, 2012 compared to $39.6 million at December 31, 2011.

Junior Subordinated Debentures (related to Trust Preferred Securities).  In June 2006 the Company formed a wholly-owned Delaware statutory trust, PEBK Capital Trust II (“PEBK Trust II”), which issued $20.0 million of guaranteed preferred beneficial interests in the Company’s junior subordinated deferrable interest debentures.  All of the common securities of PEBK Trust II are owned by the Company.  The proceeds from the issuance of the common securities and the trust preferred securities were used by PEBK Trust II to purchase $20.6 million of junior subordinated debentures of the Company, which pay a floating rate equal to three-month LIBOR plus 163 basis points.  The proceeds received by the Company from the sale of the junior subordinated debentures were used to repay in December 2006 the trust preferred securities issued in December 2001 by PEBK Capital Trust, a wholly owned Delaware statutory trust of the Company, and for general purposes.  The debentures represent the sole asset of PEBK Trust II.  PEBK Trust II is not included in the consolidated financial statements.

The trust preferred securities issued by PEBK Trust II accrue and pay interest quarterly at a floating rate of three-month LIBOR plus 163 basis points.  The Company has guaranteed distributions and other payments due on the trust preferred securities to the extent PEBK Trust II has funds with which to make the distributions and other payments.  The net combined effect of the trust preferred securities transaction is that the Company is obligated to make the distributions and other payments required on the trust preferred securities.

These trust preferred securities are mandatorily redeemable upon maturity of the debentures on June 28, 2036, or upon earlier redemption as provided in the indenture.  The Company had the right to redeem the debentures purchased by PEBK Trust II, in whole or in part, on or after June 28, 2011.  As specified in the indenture, if the debentures are redeemed prior to maturity, the redemption price will be the principal amount and any accrued but unpaid interest.

Asset Liability and Interest Rate Risk Management.  The objective of the Company’s Asset Liability and Interest Rate Risk strategies is to identify and manage the sensitivity of net interest income to changing interest rates and to minimize the interest rate risk between interest-earning assets and interest-bearing liabilities at various maturities.  This is to be done in conjunction with the need to maintain adequate liquidity and the overall goal of maximizing net interest income.

The Company manages its exposure to fluctuations in interest rates through policies established by our Asset/Liability Committee (“ALCO”).  ALCO meets monthly and has the responsibility for approving asset/liability management policies, formulating and implementing strategies to improve balance sheet positioning and/or earnings and reviewing the interest rate sensitivity of the Company.  ALCO tries to minimize interest rate risk between interest-earning assets and interest-bearing liabilities by attempting to minimize wide fluctuations in net interest income due to interest rate movements.  The ability to control these fluctuations has a direct impact on the profitability of the Company.  Management monitors this activity on a regular basis through analysis of its portfolios to determine the difference between rate sensitive assets and rate sensitive liabilities.

The Company’s rate sensitive assets are those earning interest at variable rates and those with contractual maturities within one year.  Rate sensitive assets therefore include both loans and available for sale securities.  Rate sensitive liabilities include interest-bearing checking accounts, money market deposit accounts, savings accounts, time deposits and borrowed funds.  Average rate sensitive assets for the nine months ended September 30, 2012 totaled $973.7 million, exceeding average rate sensitive liabilities of $779.2 million by $194.5 million.

The Company has an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility.  By using derivative instruments, the Company is exposed to credit and market risk.  If the counterparty fails to perform, credit risk is equal to the extent of the fair-value gain in the derivative.  The Company minimizes the credit risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed periodically by the Company.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012.

35

Included in the rate sensitive assets are $338.1 million in variable rate loans indexed to prime rate subject to immediate repricing upon changes by the Federal Open Market Committee (“FOMC”).  We utilize interest rate floors on certain variable rate loans to protect against further downward movements in the prime rate.  At September 30, 2012, we had $255.5 million in loans with interest rate floors.  The floors were in effect on $254.1 million of these loans pursuant to the terms of the promissory notes on these loans.   The weighted average rate on these loans is 1.11% higher than the indexed rate on the promissory notes without interest rate floors.

           Liquidity. The objectives of the Company’s liquidity policy are to provide for the availability of adequate funds to meet the needs of loan demand, deposit withdrawals, maturing liabilities and to satisfy regulatory requirements.  Both deposit and loan customer cash needs can fluctuate significantly depending upon business cycles, economic conditions and yields and returns available from alternative investment opportunities.  In addition, the Company’s liquidity is affected by off-balance sheet commitments to lend in the form of unfunded commitments to extend credit and standby letters of credit.  As of September 30, 2012, such unfunded commitments to extend credit were $134.6 million, while commitments in the form of standby letters of credit totaled $3.4 million.

The Company uses several sources to meet its liquidity requirements.  The primary source is core deposits, which includes demand deposits, savings accounts and non-brokered certificates of deposits of denominations less than $100,000. The Company considers these to be a stable portion of the Company’s liability mix and the result of on-going consumer and commercial banking relationships.  As of September 30, 2012, the Company’s core deposits totaled $624.5 million, or 80% of total deposits.

The other sources of funding for the Company are through large denomination certificates of deposit, including brokered deposits, federal funds purchased, securities under agreement to repurchase and FHLB borrowings.  The Bank is also able to borrow from the Federal Reserve Bank (“FRB”) on a short-term basis.  Our policies include the ability to access wholesale funding up to 40% of total assets.  Our wholesale funding includes FHLB borrowings, FRB borrowings, brokered deposits, internet certificates of deposit and certificates of deposit issued to the State of North Carolina.  The Company’s ratio of wholesale funding to total assets was 9.06% as of September 30, 2012.

At September 30, 2012, we had a significant amount of deposits in amounts greater than $100,000.  The cost of these deposits is more susceptible to changes in the interest rate environment than other deposits.  Access to the brokered deposit market could be restricted if the Bank were to fall below the well capitalized level.

The Bank has a line of credit with the FHLB equal to 20% of the Bank’s total assets, with an outstanding balance of $70.0 million at September 30, 2012 and December 31, 2011.  At September 30, 2012, the carrying value of loans pledged as collateral to the FHLB totaled $142.5 million compared to $153.7 million at December 31, 2011.  As additional collateral, the Bank has pledged securities to the FHLB.  At September 30, 2012, the market value of securities pledged to the FHLB totaled $20.0 million compared to $13.2 million at December 31, 2011.  The remaining availability under the line of credit with  the FHLB was $23.0 million at September 30, 2012 compared to $17.1 million at December 31, 2011.  The Bank had no borrowings from the FRB at September 30, 2012 and December 31, 2011.  FRB borrowings are collateralized by a blanket assignment on all qualifying loans that the Bank owns which are not pledged to the FHLB.  At September 30, 2012, the carrying value of loans pledged as collateral to the FRB totaled $324.4 million compared to $342.2 million at December 31, 2011.

The Bank also had the ability to borrow up to $47.5 million for the purchase of overnight federal funds from five correspondent financial institutions as of September 30, 2012.

The liquidity ratio for the Bank, which is defined as net cash, interest-bearing deposits with banks, federal funds sold and certain investment securities, as a percentage of net deposits and short-term liabilities was 32.82% at September 30, 2012 and 32.19% at December 31, 2011.  The minimum required liquidity ratio as defined in the Bank’s Asset/Liability and Interest Rate Risk Management Policy is 10%.

Contractual Obligations and Off-Balance Sheet Arrangements.  The Company’s contractual obligations and other commitments as of September 30, 2012 and December 31, 2011 are summarized in the table below.  The Company’s contractual obligations include the repayment of principal and interest related to FHLB advances and junior subordinated debentures, as well as certain payments under current lease agreements.  Other commitments include commitments to extend credit.  Because not all of these commitments to extend credit will be drawn upon, the actual cash requirements are likely to be significantly less than the amounts reported for other commitments below.

36

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Contractual Cash Obligations
Long-term borrowings	$	70,000	70,000
Junior subordinated debentures		20,619	20,619
Operating lease obligations		4,287	4,326
Total	$	94,906	94,945
Other Commitments
Commitments to extend credit	$	134,557	131,565
Standby letters of credit and financial guarantees written		3,429	3,288
Total	$	137,986	134,853

The Company enters into derivative contracts to manage various financial risks.  A derivative is a financial instrument that derives its cash flows, and therefore its value, by reference to an underlying instrument, index or referenced interest rate.  Derivative contracts are carried at fair value on the consolidated balance sheet with the fair value representing the net present value of expected future cash receipts or payments based on market interest rates as of the balance sheet date.  Derivative contracts are written in amounts referred to as notional amounts, which only provide the basis for calculating payments between counterparties and are not a measure of financial risk.  Further discussions of derivative instruments are included above in the section entitled “Asset Liability and Interest Rate Risk Management”.

Capital Resources.  Shareholders’ equity at September 30, 2012 was $96.8 million compared to $103.0 million at December 31, 2011.  This decrease was primarily attributable to the Company’s repurchase and retirement of a portion of its preferred shares.  The Company purchased 12,530 shares of the Company’s 25,054 outstanding shares of preferred stock from the UST, which was issued to the UST in connection with the Company’s participation in the CPP under TARP in 2008.  The shares were purchased for $933.36 per share, for a total purchase price of $11,778,575.90, including $83,575.10 accrued and unpaid dividends on the preferred stock.  The Company retired the 12,530 shares purchased.  The $834,999.20 difference between the $12,530,000 face value of the preferred stock retired and the $11,695,000.80 purchase price of the preferred stock retired was credited to retained earnings effective June 30, 2012.  Remaining preferred shares are redeemable at any time at par.  The Company expects to be able to repurchase the shares from future earnings, however, there are no immediate plans to repurchase these shares.

Common stock at September 30, 2012 was $48.0 million compared to $48.3 million at December 31, 2011.  This decrease is due to the Company’s repurchase of the Warrant that was issued to the UST, which was partially offset by stock options exercised during the third quarter of 2012.

Annualized return on average equity for the nine months ended September 30, 2012 was 5.86% compared to 5.03% for the year ended December 31, 2011.  Total cash dividends paid on common stock were $610,000 and $333,000 for the nine months ended September 30, 2012 and 2011, respectively.  Cash dividends paid on common stock in the nine months ended September 30, 2012 include a $0.05 per share special cash dividend, amounting to $277,000, paid in February 2012.

The Board of Directors, at its discretion, can issue shares of preferred stock up to a maximum of 5,000,000 shares. The Board is authorized to determine the number of shares, voting powers, designations, preferences, limitations and relative rights.  The Board of Directors does not currently anticipate issuing any additional series of preferred stock.

Under the regulatory capital guidelines, financial institutions are currently required to maintain a total risk-based capital ratio of 8.0% or greater, with a Tier 1 risk-based capital ratio of 4.0% or greater.  Tier 1 capital is generally defined as shareholders’ equity and trust preferred securities less all intangible assets and goodwill.  Tier 1 capital at September 30, 2012 and December 31, 2011 includes $20.0 million in trust preferred securities.  The Company’s Tier 1 capital ratio was 15.89% and 16.10% at September 30, 2012 and December 31, 2011, respectively.  Total risk-based capital is defined as Tier 1 capital plus supplementary capital.  Supplementary capital, or Tier 2 capital, consists of the Company’s allowance for loan losses, not exceeding 1.25% of the Company’s risk-weighted assets. Total risk-based capital ratio is therefore defined as the ratio of total capital (Tier 1 capital and Tier 2 capital) to risk-weighted assets.  The Company’s total risk-based capital ratio was 17.19% and 17.38% at September 30, 2012 and December 31, 2011, respectively.  In addition to the Tier 1 and total risk-based capital requirements, financial institutions are also required to maintain a leverage ratio of Tier 1 capital to total average assets of 4.0% or greater.  The Company’s Tier 1 leverage capital ratio was 10.98% and 11.06% at September 30, 2012 and December 31, 2011, respectively.

37

The Bank’s Tier 1 risk-based capital ratio was 15.32% and 13.76% at September 30, 2012 and December 31, 2011, respectively.  The total risk-based capital ratio for the Bank was 16.63% and 15.04% at September 30, 2012 and December 31, 2011, respectively.   The Bank’s Tier 1 leverage capital ratio was 10.57% and 9.44% at September 30, 2012 and December 31, 2011, respectively.

A bank is considered to be “well capitalized” if it has a total risk-based capital ratio of 10.0 % or greater, a Tier 1 risk-based capital ratio of 6.0% or greater, and a leverage ratio of 5.0% or greater.  Based upon these guidelines, the Bank was considered to be “well capitalized” at September 30, 2012.

Subsequent Events.  The Company has reviewed and evaluated subsequent events and transactions for material subsequent events through the date the financial statements are issued.  Management has concluded that there were no material subsequent events.

38

Item 3.      Quantitative and Qualitative Disclosures About Market Risk

Not required for smaller reporting companies.

39

Item 4T.      Controls and Procedures

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report.  Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act.

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

40

PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings
	In the opinion of management, the Company is not involved in any material pending legal proceedings other than routine
	proceedings occurring in the ordinary course of business.
Item 1A.	Risk Factors
	Not required for smaller reporting companies.
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds

ISSUER PURCHASES OF EQUITY SECURITIES
					Total
					Number of
					Shares	Maximum
					Purchased as	Number of
					Part of	Shares that
	Total				Publicly	May Yet Be
	Number of		Average		Announced	Purchased
	Shares		Price Paid		Plans or	Under the Plans
Period	Purchased		per Share		Programs	or Programs
July 1 - 31, 2012	-		$	-	-	-
August 1 - 31, 2012	357,234	(1)		1.19	-	-
September 1 - 30, 2012	5,050	(2)		9.50	-	-
Total	362,284		$	1.31	-

(1)  On August 8, 2012, the Company completed its repurchase of the Warrant to purchase 357,234 shares of the Company's common stock that was issued to UST on December 23, 2008, as part of the CPP under TARP.  The Company repurchased the Warrant for a total price of $425,000.

(2)  The Company purchased 5,050 shares on the open market in the three months ended September 30, 2012 for its deferred compensation plan.  All purchases were funded by participant contributions to the plan.

Item 3.	Defaults Upon Senior Securities
	Not applicable
Item 5.	Other Information
	Not applicable

Item 6.	Exhibits
	Exhibit (3)(1)	Articles of Amendment dated December 19, 2008, regarding the Series A
		Preferred Stock, incorporated by reference to Exhibit (3)(1) to the Form 8-K filed
		with the Securities and Exchange Commission on December 29, 2008
	Exhibit (3)(2)	Articles of Amendment dated February 26, 2010, incorporated by reference to
		Exhibit (3)(2) to the Form 10-K filed with the Securities and Exchange
		Commission on March 25, 2010

41

Exhibit (3)(i)	Articles of Incorporation of the Registrant, incorporated by reference to
	Exhibit (3)(i) to the Form 8-A filed with the Securities and Exchange
	Commission on September 2, 1999
Exhibit (3)(ii)	Amended and Restated Bylaws of the Registrant, incorporated by reference to
	Exhibit (3)(ii) to the Form 10-K filed with the Securities and Exchange
	Commission on March 25, 2010
Exhibit (4)	Specimen Stock Certificate, incorporated by reference to Exhibit (4) to the Form
	8-A filed with the Securities and Exchange Commission on September 2, 1999
Exhibit (4)(1)	Form of Certificate for the Series A Preferred Stock, incorporated by reference to
	Exhibit (4)(1) to the Form 8-K filed with the Securities and Exchange
	Commission on December 29, 2008
Exhibit (4)(2)	Warrant dated December 23, 2008, for the purchase of shares of Common Stock,
	incorporated by reference to Exhibit (4)(2) to the Form 8-K filed with the
	Securities and Exchange Commission on December 29, 2008
Exhibit (10)(1)	Letter Agreement dated December 23, 2008 between the Registrant and the
	United States Department of the Treasury, incorporated by reference to Exhibit
	(10)(1) to the Form 8-K filed with the Securities and Exchange Commission on
	December 29, 2008
Exhibit (10)(a)(i)	Employment Letter Agreement dated December 23, 2008 between the Registrant
	and Tony W. Wolfe, incorporated by reference to Exhibit (10)(a)(i) to the Form 8-K
	filed with the Securities and Exchange Commission on December 29, 2008
Exhibit (10)(a)(ii)	Amendment to Employment Agreement between Peoples Bank and Tony W.
	Wolfe dated December 18, 2008, incorporated by reference to Exhibit (10)(a)(ii)
	to the Form 8-K filed with the Securities and Exchange Commission on
	December 29, 2008
Exhibit (10)(a)(iii)	Amended and Restated Executive Salary Continuation Agreement between
	Peoples Bank and Tony W. Wolfe dated December 18, 2008, incorporated by
	reference to Exhibit (10)(a)(iii) to the Form 8-K filed with the Securities and
	Exchange Commission on December 29, 2008
Exhibit (10)(b)(i)	Employment Letter Agreement dated December 23, 2008 between the Registrant
	and Joseph F. Beaman, Jr., incorporated by reference to Exhibit (10(b)(i) to the
	Form 8-K filed with the Securities and Exchange Commission on December 29,
	2008
Exhibit (10)(b)(ii)	Amendment to Employment Agreement between Peoples Bank and Joseph F.
	Beaman, Jr. dated December 18, 2008, incorporated by reference to Exhibit
	(10)(b)(ii) to the Form 8-K filed with the Securities and Exchange Commission
	on December 29, 2008
Exhibit (10)(b)(iii)	Amended and Restated Executive Salary Continuation Agreement between
	Peoples Bank and Joseph F. Beaman, Jr. dated December 18, 2008, incorporated
	by reference to Exhibit (10)(b)(iii) to the Form 8-K filed with the Securities and
	Exchange Commission on December 29, 2008
Exhibit (10)(c)(i)	Employment Letter Agreement dated December 23, 2008 between the Registrant
	and William D. Cable, Sr., incorporated by reference to Exhibit (10(c)(i) to the
	Form 8-K filed with the Securities and Exchange Commission on December 29,
	2008

42

Exhibit (10)(c)(ii)	Amendment to Employment Agreement between Peoples Bank and William D.
	Cable, Sr. dated December 18, 2008, incorporated by reference to Exhibit
	(10)(c)(ii) to the Form 8-K filed with the Securities and Exchange Commission
	on December 29, 2008
Exhibit (10)(c)(iii)	Amended and Restated Executive Salary Continuation Agreement between
	Peoples Bank and William D. Cable, Sr. dated December 18, 2008, incorporated
	by reference to Exhibit (10)(c)(iii) to the Form 8-K filed with the Securities and
	Exchange Commission on December 29, 2008
Exhibit (10)(d)(i)	Employment Letter Agreement dated December 23, 2008 between the Registrant
	and Lance A. Sellers, incorporated by reference to Exhibit (10(d)(i) to the Form
	8-K filed with the Securities and Exchange Commission on December 29, 2008
Exhibit (10)(d)(ii)	Amendment to Employment Agreement between Peoples Bank and Lance A.
	Sellers dated December 18, 2008, incorporated by reference to Exhibit (10)(d)(ii)
	to the Form 8-K filed with the Securities and Exchange Commission on
	December 29, 2008
Exhibit (10)(d)(iii)	Amended and Restated Executive Salary Continuation Agreement between
	Peoples Bank and Lance A. Sellers dated December 18, 2008, incorporated by
	reference to Exhibit (10)(d)(iii) to the Form 8-K filed with the Securities and
	Exchange Commission on December 29, 2008
Exhibit (10)(e)	Peoples Bancorp of North Carolina, Inc. Omnibus Stock Ownership and Long
	Term Incentive Plan incorporated by reference to Exhibit (10)(f) to the Form 10-K
	filed with the Securities and Exchange Commission on March 30, 2000
Exhibit (10)(e)(i)	Amendment No. 1 to the Peoples Bancorp of North Carolina, Inc. Omnibus Stock
	Ownership and Long Term Incentive Plan incorporated by reference to Exhibit
	(10)(e)(i) to the Form 10-K filed with the Securities and Exchange Commission
	on March 15, 2007
Exhibit (10)(f)(i)	Employment Letter Agreement dated December 23, 2008 between the Registrant
	and A. Joseph Lampron, Jr., incorporated by reference to Exhibit (10(f)(i) to the
	Form 8-K filed with the Securities and Exchange Commission on December 29,
	2008
Exhibit (10)(f)(ii)	Amendment to Employment Agreement between Peoples Bank and A. Joseph
	Lampron, Jr. dated March 18, 2010 incorporated by reference to Exhibit (10)(f)(ii)
	to the Form 10-K filed with the Securities and Exchange Commission on March
	25, 2010
Exhibit (10)(f)(iii)	Amended and Restated Executive Salary Continuation Agreement between
	Peoples Bank and A. Joseph Lampron, Jr. dated December 18, 2008, incorporated
	by reference to Exhibit (10)(f)(iii) to the Form 8-K filed with the Securities and
	Exchange Commission on December 29, 2008
Exhibit (10)(g)	Peoples Bank Directors' and Officers' Deferral Plan, incorporated by reference
	to Exhibit (10)(h) to the Form 10-K filed with the Securities and Exchange
	Commission on March 28, 2002
Exhibit (10)(h)	Rabbi Trust for the Peoples Bank Directors' and Officers' Deferral Plan,
	incorporated by reference to Exhibit (10)(i) to the Form 10-K filed with the
	Securities and Exchange Commission on March 28, 2002
Exhibit (10)(i)	Description of Service Recognition Program maintained by Peoples Bank,
	incorporated by reference to Exhibit (10)(i) to the Form 10-K filed with the
	Securities and Exchange Commission on March 27, 2003

43

Exhibit (10)(j)	Capital Securities Purchase Agreement dated as of June 26, 2006, by and among
	the Registrant, PEBK Capital Trust II and Bear, Sterns Securities Corp.,
	incorporated by reference to Exhibit (10)(j) to the Form 10-Q filed with the
	Securities and Exchange Commission on November 13, 2006
Exhibit (10)(k)	Amended and Restated Trust Agreement of PEBK Capital Trust II, dated as of
	June 28, 2006, incorporated by reference to Exhibit (10)(k) to the Form 10-Q filed
	with the Securities and Exchange Commission on November 13, 2006
Exhibit (10)(l)	Guarantee Agreement of the Registrant dated as of June 28, 2006, incorporated
	by reference to Exhibit (10)(l) to the Form 10-Q filed with the Securities and
	Exchange Commission on November 13, 2006
Exhibit (10)(m)	Indenture, dated as of June 28, 2006, by and between the Registrant and LaSalle
	Bank National Association, as Trustee, relating to Junior Subordinated Debt
	Securities Due September 15, 2036, incorporated by reference to Exhibit (10)(m)
	to the Form 10-Q filed with the Securities and Exchange Commission on
	November 13, 2006
Exhibit (10)(n)	Form of Amended and Restated Director Supplemental Retirement Agreement
	between Peoples Bank and Directors Robert C. Abernethy, James S. Abernethy,
	Douglas S. Howard, John W. Lineberger, Jr., Gary E. Matthews, Dr. Billy L.
	Price, Jr., Larry E. Robinson, W. Gregory Terry, Dan Ray Timmerman, Sr. and
	Benjamin I. Zachary, incorporated by reference to Exhibit (10)(n) to the Form
	8-K filed with the Securities and Exchange Commission on December 29, 2008
Exhibit (10)(o)	2009 Omnibus Stock Ownership and Long Term Incentive Plan incorporated
	by reference to Exhibit (10)(o) to the Form 10-K filed with the Securities and
	Exchange Commission on March 20, 2009
Exhibit (10)(p)	Underwriting Agreement with Merrill Lynch, Pierce, Fenner & Smith
	Incorporated and Sandler O'Neill & Partners, L.P., as representatives of the
	several underwriters listed on Schedule A thereto and the UST incorporated by
	reference to Exhibit 1.1 to the Form 8-K filed with the Securities and Exchange
	Commission on June 29, 2012
Exhibit (14)	Code of Business Conduct and Ethics of Peoples Bancorp of North Carolina,
	Inc., incorporated by reference to Exhibit (14) to the Form 10-K filed with the
	Securities and Exchange Commission on March 25, 2005
Exhibit (31)(a)	Certification of principal executive officer pursuant to section 302 of the
	Sarbanes-Oxley Act of 2002
Exhibit (31)(b)	Certification of principal financial officer pursuant to section 302 of the
	Sarbanes-Oxley Act of 2002
Exhibit (32)	Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
	906 of the Sarbanes-Oxley Act of 2002
Exhibit (101)	The following materials from the Company's 10-Q Report for the quarterly
	period ended September 30, 2012, formatted in XBRL: (i) the Condensed Consolidated
	Balance Sheets, (ii) the Condensed Consolidated Statements of Income, (iii) the
	Condensed Consolidated Statements of Changes in Shareholders' Equity, (iv) the
	Condensed Consolidated Statements of Cash Flows, and (v) the Notes to the
	Condensed Consolidated Financial Statements, tagged as blocks of text.*
	*Furnished, not filed.

44

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	Peoples Bancorp of North Carolina, Inc.
November 9,  2012	/s/ Lance A. Sellers
Date	Lance A. Sellers
	President and Chief Executive Officer
	(Principal Executive Officer)
November 9,  2012	/s/ A. Joseph Lampron, Jr.
Date	A. Joseph Lampron, Jr.
	Executive Vice President and Chief Financial Officer
	(Principal Financial and Principal Accounting Officer)

45

EX-31.A

 EXHIBIT (31)(a)

CERTIFICATIONS

I, Lance A. Sellers, certify that:

1.   I have reviewed this quarterly report on Form 10-Q of Peoples Bancorp of North Carolina Inc.;

2.   Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.   Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.   The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)   designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)   designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)   evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d)   disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect the registrant’s internal control over financial reporting; and

5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a)   all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information;  and

b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

November 9,  2012	/s/ Lance A. Sellers
Date	Lance A. Sellers
	President and Chief Executive Officer
	(Principal Executive Officer)

46

EX-31.B

EXHIBIT (31)(b)

CERTIFICATIONS

I, A. Joseph Lampron, Jr., certify that:

1.   I have reviewed this quarterly report on Form 10-Q of Peoples Bancorp of North Carolina Inc.;

2.   Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.   Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.   The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)   designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)   designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)   evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation ; and

d)   disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect the registrant’s internal control over financial reporting; and

5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a)   all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information;  and

b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

November 9,  2012	/s/ A. Joseph Lampron, Jr.
Date	A. Joseph Lampron, Jr.
	Executive Vice President and Chief Financial Officer
	(Principal Financial and Principal Accounting Officer)

47

EX-32

EXHIBIT (32)

PEOPLES BANCORP OF NORTH CAROLINA, INC.

Certification of Periodic Financial Report

Pursuant to 18 U.S.C. Section 1350

Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, each of the undersigned officers of Peoples Bancorp of North Carolina, Inc. (the “Company”) certifies that the Quarterly Report on Form 10-Q of the Company for the quarter ended September 30, 2012 fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 and information contained in that Form 10-Q fairly presents, in all material respects, the financial condition and results of operations of the Company.

November 9,  2012	/s/ Lance A. Sellers
Date	Lance A. Sellers
	Chief Executive Officer
November 9,  2012	/s/ A. Joseph Lampron, Jr.
Date	A. Joseph Lampron, Jr.
	Chief Financial Officer

*This certification is made solely for purpose of 18 U.S.C. Section 1350, subject to the knowledge standard contained therein, and not for any other purpose.

48

XML

Fair Value, impaired loans (Details) (Nonrecurring [Member], USD $) In Thousands, unless otherwise specified	9 Months Ended	12 Months Ended
	Sep. 30, 2012	Dec. 31, 2011
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Impaired Loans	$ 57,495	$ 49,901
Other Real Estate	6,595	7,576
Impaired loans [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Total Gains (Losses)	(5,408)	(11,864)
Other real estate [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Total Gains (Losses)	(710)	(1,322)
Level 1 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Impaired Loans	0	0
Other Real Estate	0	0
Level 2 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Impaired Loans	0	431
Other Real Estate	0	0
Level 3 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Impaired Loans	57,495	49,470
Other Real Estate	$ 6,595	$ 7,576

XML

Loans, Impaired (Details) (USD $) In Thousands, unless otherwise specified	9 Months Ended	12 Months Ended
	Sep. 30, 2012	Dec. 31, 2011
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	$ 67,000	$ 64,297
Recorded Investment With No Allowance	26,325	19,298
Recorded Investment With Allowance	31,170	35,400
Recorded Investment in Impaired Loans	57,495	54,698
Related Allowance	3,278	4,797
Average Outstanding Impaired Loans	49,417	49,307
Real Estate Loans - Construction and land development [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	28,090	28,721
Recorded Investment With No Allowance	12,832	14,484
Recorded Investment With Allowance	7,437	6,098
Recorded Investment in Impaired Loans	20,269	20,582
Related Allowance	1,821	3,264
Average Outstanding Impaired Loans	13,806	17,848
Real Estate Loans - Single-family residential [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	29,652	26,382
Recorded Investment With No Allowance	5,193	969
Recorded Investment With Allowance	23,416	24,719
Recorded Investment in Impaired Loans	28,609	25,688
Related Allowance	1,343	1,427
Average Outstanding Impaired Loans	28,620	25,102
Real estate loans - Commercial [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	7,903	7,717
Recorded Investment With No Allowance	6,953	3,845
Recorded Investment With Allowance	317	3,139
Recorded Investment in Impaired Loans	7,270	6,984
Related Allowance	114	77
Average Outstanding Impaired Loans	5,565	4,518
Real Estate Loans - Multifamily and farmland [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	200	209
Recorded Investment With No Allowance	200	0
Recorded Investment With Allowance	0	209
Recorded Investment in Impaired Loans	200	209
Related Allowance	0	1
Average Outstanding Impaired Loans	201	214
Total impaired real estate loans [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	65,845	63,029
Recorded Investment With No Allowance	25,178	19,298
Recorded Investment With Allowance	31,170	34,165
Recorded Investment in Impaired Loans	56,348	53,463
Related Allowance	3,278	4,769
Average Outstanding Impaired Loans	48,192	47,682
Commercial (not secured by real estate) [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	1,155	1,111
Recorded Investment With No Allowance	1,117	0
Recorded Investment With Allowance	0	1,083
Recorded Investment in Impaired Loans	1,117	1,083
Related Allowance	0	26
Average Outstanding Impaired Loans	1,187	1,485
Consumer loans (not secured by real estate) [Member]
Financing Receivable, Impaired [Line Items]
Unpaid Contractual Principal Balance	0	157
Recorded Investment With No Allowance	30	0
Recorded Investment With Allowance	0	152
Recorded Investment in Impaired Loans	30	152
Related Allowance	0	2
Average Outstanding Impaired Loans	$ 38	$ 140

XML

Loans

9 Months Ended

Sep. 30, 2012

Loans [Abstract]

Loans

(3)     Loans

Major classifications of loans at September 30, 2012 and December 31, 2011 are summarized as follows:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	80,733	93,812
Single-family residential		249,167	267,051
Commercial		203,603	214,415
Multifamily and farmland		4,964	4,793
Total real estate loans		538,467	580,071
Commercial loans (not secured by real estate)		60,358	60,646
Farm loans (not secured by real estate)		12	-
Consumer loans (not secured by real estate)		10,303	10,490
All other loans (not secured by real estate)		16,642	19,290
Total loans		625,782	670,497
Less allowance for loan losses		16,551	16,604
Total net loans	$	609,231	653,893

The Bank grants loans and extensions of credit primarily within the Catawba Valley region of North Carolina, which encompasses Catawba, Alexander, Iredell and Lincoln counties and also in Mecklenburg, Union and Wake counties of North Carolina.  Although the Bank has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by improved and unimproved real estate, the value of which is dependent upon the real estate market.

Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are placed on non-accrual status when, in management's opinion, the borrower may be unable to meet payment obligations as they become due, as well as when required by regulatory provisions. Loans may be placed on non-accrual status regardless of whether or not such loans are considered past due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

The following tables present an age analysis of past due loans, by loan type, as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	1,513	1,846	3,359	77,374	80,733	-
Single-family residential		8,145	4,758	12,903	236,264	249,167	2,396
Commercial		743	2,492	3,235	200,368	203,603	-
Multifamily and farmland		209	-	209	4,755	4,964	-
Total real estate loans		10,610	9,096	19,706	518,761	538,467	2,396
Commercial loans (not secured by real estate)		854	18	872	59,486	60,358	-
Farm loans (not secured by real estate)		-	-	-	12	12	-
Consumer loans (not secured by real estate)		119	5	124	10,179	10,303	2
All other loans (not secured by real estate)		-	-	-	16,642	16,642	-
Total loans	$	11,583	9,119	20,702	605,080	625,782	2,398

December 31, 2011
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	10,033	3,338	13,371	80,441	93,812	-
Single-family residential		16,536	6,189	22,725	244,326	267,051	2,709
Commercial		1,002	958	1,960	212,455	214,415	-
Multifamily and farmland		13	-	13	4,780	4,793	-
Total real estate loans		27,584	10,485	38,069	542,002	580,071	2,709
Commercial loans (not secured by real estate)		576	9	585	60,061	60,646	-
Consumer loans (not secured by real estate)		116	36	152	10,338	10,490	-
All other loans (not secured by real estate)		-	-	-	19,290	19,290	-
Total loans	$	28,276	10,530	38,806	631,691	670,497	2,709

The following table presents the Company's non-accrual loans as of September 30, 2012 and December 31, 2011:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	10,866	13,257
Single-family residential		4,255	5,522
Commercial		3,239	2,451
Total real estate loans		18,360	21,230
Commercial loans (not secured by real estate)		457	403
Consumer loans (not secured by real estate)		22	152
Total	$	18,839	21,785

At each reporting period, the Bank determines which loans are impaired.  Accordingly, the Bank's impaired loans are reported at their estimated fair value on a non-recurring basis.  An allowance for each impaired loan, which is generally collateral-dependent, is calculated based on the fair value of its collateral.  The fair value of the collateral is based on appraisals performed by REAS, a subsidiary of the Bank.  REAS is staffed by certified appraisers that also perform appraisals for other companies.   Factors including the assumptions and techniques utilized by the appraiser are considered by management.  If the recorded investment in the impaired loan exceeds the measure of fair value of the collateral, a valuation allowance is recorded as a component of the allowance for loan losses.  Impaired loans under $250,000 are not individually evaluated for impairment, with the exception of the Bank's troubled debt restructured ("TDR") loans in the residential mortgage loan portfolio, which are individually evaluated for impairment.  Accruing impaired loans were $38.7 million, $21.1 million and $30.6 million at September 30, 2012, September 30, 2011 and December 31, 2011, respectively.  Interest income recognized on accruing impaired loans was $1.4 million, $897,000 and $1.7 million for the nine months ended September 30, 2012, the nine months ended September 30, 2011 and the year ended December 31, 2011, respectively.  No interest income is recognized on non-accrual impaired loans subsequent to their classification as impaired.

The following tables present the Company's impaired loans as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,090	12,832	7,437	20,269	1,821	13,806
Single-family residential		29,652	5,193	23,416	28,609	1,343	28,620
Commercial		7,903	6,953	317	7,270	114	5,565
Multifamily and farmland		200	200	-	200	-	201
Total impaired real estate loans		65,845	25,178	31,170	56,348	3,278	48,192
Commercial loans (not secured by real estate)		1,155	1,117	-	1,117	-	1,187
Consumer loans (not secured by real estate)		-	30	-	30	-	38
Total impaired loans	$	67,000	26,325	31,170	57,495	3,278	49,417

December 31, 2011
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,721	14,484	6,098	20,582	3,264	17,848
Single-family residential		26,382	969	24,719	25,688	1,427	25,102
Commercial		7,717	3,845	3,139	6,984	77	4,518
Multifamily and farmland		209	-	209	209	1	214
Total impaired real estate loans		63,029	19,298	34,165	53,463	4,769	47,682
Commercial loans (not secured by real estate)		1,111	-	1,083	1,083	26	1,485
Consumer loans (not secured by real estate)		157	-	152	152	2	140
Total impaired loans	$	64,297	19,298	35,400	54,698	4,797	49,307

Changes in the allowance for loan losses for the nine months ended September 30, 2012 and the year ended December 31, 2011 were as follows:

Nine months ended September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland	Commercial		Farm	Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	7,182		5,357		1,731		13	1,029		-	255		1,037	16,604
Charge-offs		(3,045	)	(1,149	)	(547	)	-	(498	)	-	(403	)	-	(5,642	)
Recoveries		522		71		374		-	95		-	115		-	1,177
Provision		1,733		817		(21	)	-	(18	)	-	222		1,679	4,412
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Ending balance: individually
evaluated for impairment	$	1,527		1,637		114		-	-		-	-		-	3,278
Ending balance: collectively
evaluated for impairment		4,865		3,459		1,423		13	608		-	189		2,716	13,273
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Loans:
Ending balance	$	80,733		249,167		203,603		4,964	60,358		12	26,945		-	625,782
Ending balance: individually
evaluated for impairment	$	19,734		23,770		6,798		-	346		-	-		-	50,648
Ending balance: collectively
evaluated for impairment	$	60,999		225,397		196,805		4,964	60,012		12	26,945		-	575,134

Year ended December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland		Commercial		Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	5,774		6,097		1,409		17		1,174		430		592	15,493
Charge-offs		(7,164	)	(2,925	)	(1,271	)	-		(314	)	(586	)	-	(12,260	)
Recoveries		241		201		24		-		121		152		-	739
Provision		8,331		1,984		1,569		(4	)	48		259		445	12,632
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Ending balance: individually
evaluated for impairment	$	1,250		1,289		-		-		-		-		-	2,539
Ending balance: collectively
evaluated for impairment		5,932		4,068		1,731		13		1,029		255		1,037	14,065
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Loans:
Ending balance	$	93,812		267,051		214,415		4,793		60,646		29,780		-	670,497
Ending balance: individually
evaluated for impairment	$	20,280		20,661		3,845		-		-		-		-	44,786
Ending balance: collectively
evaluated for impairment	$	73,532		246,390		210,570		4,793		60,646		29,780		-	625,711

The Company utilizes an internal risk grading matrix to assign a risk grade to each of its loans.  Loans are graded on a scale of 1 to 9.  These risk grades are evaluated on an ongoing basis.  A description of the general characteristics of the nine risk grades is as follows:

·   Risk Grade 1 – Excellent Quality: Loans are well above average quality and a minimal amount of credit risk exists.  CD or cash secured loans or properly margined actively traded stock or bond secured loans would fall in this grade.

·   Risk Grade 2 – High Quality: Loans are of good quality with risk levels well within the Company's range of acceptability.  The organization or individual is established with a history of successful performance though somewhat susceptible to economic changes.

·   Risk Grade 3 – Good Quality: Loans of average quality with risk levels within the Company's range of acceptability but higher than normal. This may be a new organization or an existing organization in a transitional phase (e.g. expansion, acquisition, market change).

·   Risk Grade 4 – Management Attention: These loans have higher risk and servicing needs but still are acceptable. Evidence of marginal performance or deteriorating trends is observed.  These are not problem credits presently, but may be in the future if the borrower is unable to change its present course.

·   Risk Grade 5 – Watch: These loans are currently performing satisfactorily, but there has been some recent past due history on repayment and there are potential weaknesses that may, if not corrected, weaken the asset or inadequately protect the Company's position at some future date.

·   Risk Grade 6 – Substandard: A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the obligor or the collateral pledged (if there is any).  There is a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.  There is a distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

·   Risk Grade 7 – Low Substandard: These loans have the general characteristics of a Grade 6 Substandard loan, with heightened potential concerns.  The exact amount of loss is not yet known because neither the liquidation value of the collateral nor the borrower's predicted repayment ability is known with confidence.

·   Risk Grade 8 – Doubtful: Loans classified as Doubtful have all the weaknesses inherent in loans classified Substandard, plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values highly questionable and improbable.  Doubtful is a temporary grade where a loss is expected but is presently not quantified with any degree of accuracy. Once the loss position is determined, the amount is charged off.

·   Risk Grade 9 – Loss: Loans classified as Loss are considered uncollectable and of such little value that their continuance as bankable assets is not warranted.  This classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this worthless loan even though partial recovery may be realized in the future.  Loss is a temporary grade until the appropriate authority is obtained to charge the loan off.

The following tables present the credit risk profile of each loan type based on internally assigned risk grades as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Farm	Consumer	All Other	Total
1- Excellent Quality	$	192	23,029	-	-	954	-	1,350	-	25,525
2- High Quality		5,132	58,651	24,297	36	9,737	-	4,213	2,376	104,442
3- Good Quality		23,443	88,980	116,735	2,647	36,287	12	4,226	14,261	286,591
4- Management Attention		24,565	48,969	49,292	1,364	12,103	-	388	5	136,686
5- Watch		8,177	11,249	8,609	717	351	-	89	-	29,192
6- Substandard		19,224	18,289	4,670	200	926	-	37	-	43,346
7- Low Substandard		-	-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	-	-	-	-
Total	$	80,733	249,167	203,603	4,964	60,358	12	10,303	16,642	625,782

December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Consumer	All Other	Total
1- Excellent Quality	$	197	25,474	-	-	715	1,344	-	27,730
2- High Quality		5,183	64,817	25,506	50	8,801	4,070	2,774	111,201
3- Good Quality		27,675	100,388	136,137	3,448	36,585	4,259	16,509	325,001
4- Management Attention		28,138	50,253	40,312	358	12,882	429	7	132,379
5- Watch		15,923	11,767	2,795	728	622	89	-	31,924
6- Substandard		16,696	14,352	9,665	209	1,041	154	-	42,117
7- Low Substandard		-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	145	-	145
Total	$	93,812	267,051	214,415	4,793	60,646	10,490	19,290	670,497

At September 30, 2012, TDR loans were $21.8 million, including $1.8 million in performing TDR loans.  Effective March 31, 2012, performing TDR balances reflect current year TDR loans only, in accordance with GAAP.  Previously reported TDR amounts reflect cumulative TDR loans from prior periods in addition to current year TDR loans.  At December 31, 2011, TDR loans were $44.1 million, including $15.1 million in performing TDR loans.   The terms of these loans have been renegotiated to provide a reduction in principal or interest as a result of the deteriorating financial position of the borrower.

The following table presents an analysis of TDR loans by loan type as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	20	$	16,735	9,824
Single-family residential	97		10,965	10,118
Commercial	5		3,136	981
Multifamily and Farmland	1		322	200
Total real estate TDR loans	123		31,158	21,123
Commercial loans (not secured by real estate)	14		1,271	706
Consumer loans (not secured by real estate)	1		2	6
Total TDR loans	138	$	32,431	21,835

December 31, 2011
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	29	$	19,762	12,840
Single-family residential	241		25,541	24,846
Commercial	15		7,200	5,013
Multifamily and Farmland	1		322	209
Total real estate TDR loans	286		52,825	42,908
Commercial loans (not secured by real estate)	21		1,711	1,083
Consumer loans (not secured by real estate)	8		124	142
Total TDR loans	315	$	54,660	44,133

XML

Net Earnings Per Common Share (Details) (USD $) In Thousands, except Share data, unless otherwise specified	3 Months Ended		9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011	Sep. 30, 2012	Sep. 30, 2011
Net Earnings Available to Common Shareholders [Abstract]
Basic earnings per common share	$ 1,256	$ 1,044	$ 3,727	$ 2,337
Effect of dilutive securities, Stock options	0	0	0	0
Diluted earnings per common share	$ 1,256	$ 1,044	$ 3,727	$ 2,337
Common Shares [Abstract]
Basic earnings per common share (in shares)	5,559,016	5,542,703	5,549,148	5,542,126
Effect of dilutive securities, Stock options (in shares)	2,570	1,922	2,168	1,739
Diluted earnings per common share (in shares)	5,561,586	5,544,625	5,551,316	5,543,865
Per Share Amount [Abstract]
Basic earnings per common share (in dollars per share)	$ 0.23	$ 0.19	$ 0.67	$ 0.42
Diluted earnings per common share (in dollars per share)	$ 0.23	$ 0.19	$ 0.67	$ 0.42

XML

Loans, Troubled Debt Restructuring (Details) (USD $)	Sep. 30, 2012	Dec. 31, 2011
Financing Receivable, Modifications [Line Items]
Number of Contracts	138	315
Pre-Modification Outstanding Recorded Investment	$ 32,431,000	$ 54,660,000
Post-Modification Outstanding Recorded Investment	21,835,000	44,133,000
Performing troubled debt restructuring loan	1,800,000	15,100,000
Real Estate Loans - Construction and land development [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	20	29
Pre-Modification Outstanding Recorded Investment	16,735,000	19,762,000
Post-Modification Outstanding Recorded Investment	9,824,000	12,840,000
Real Estate Loans - Single-family residential [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	97	241
Pre-Modification Outstanding Recorded Investment	10,965,000	25,541,000
Post-Modification Outstanding Recorded Investment	10,118,000	24,846,000
Real Estate Loans - Commercial [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	5	15
Pre-Modification Outstanding Recorded Investment	3,136,000	7,200,000
Post-Modification Outstanding Recorded Investment	981,000	5,013,000
Real Estate Loans - Multifamily and farmland [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	1	1
Pre-Modification Outstanding Recorded Investment	322,000	322,000
Post-Modification Outstanding Recorded Investment	200,000	209,000
Total real estate TDR loans [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	123	286
Pre-Modification Outstanding Recorded Investment	31,158,000	52,825,000
Post-Modification Outstanding Recorded Investment	21,123,000	42,908,000
Commercial (not secured by real estate) [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	14	21
Pre-Modification Outstanding Recorded Investment	1,271,000	1,711,000
Post-Modification Outstanding Recorded Investment	706,000	1,083,000
Consumer loans (not secured by real estate) [Member]
Financing Receivable, Modifications [Line Items]
Number of Contracts	1	8
Pre-Modification Outstanding Recorded Investment	2,000	124,000
Post-Modification Outstanding Recorded Investment	$ 6,000	$ 142,000

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Stock-Based Compensation (Details) (USD $)	9 Months Ended				12 Months Ended		3 Months Ended			12 Months Ended	9 Months Ended	1 Months Ended	3 Months Ended
	Sep. 30, 2012 1999 Plan [Member] Stock Options [Member]	Sep. 30, 2012 1999 Plan [Member] Stock Options [Member] In 1999 [Member]	Sep. 30, 2012 1999 Plan [Member] Stock Options [Member] Subsequent to 1999 [Member]	Sep. 30, 2012 1999 Plan [Member] Restricted Stock Units (RSUs) [Member]	Dec. 31, 2007 1999 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2007 [Member]	Sep. 30, 2012 1999 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2007 [Member]	Dec. 31, 2008 1999 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2008 [Member]	Sep. 30, 2008 1999 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2008 [Member]	Sep. 30, 2012 1999 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2008 [Member]	Dec. 31, 2009 2009 Plan [Member]	Sep. 30, 2012 2009 Plan [Member] Restricted Stock Units (RSUs) [Member]	Jul. 31, 2012 2009 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2012 [Member]	Mar. 31, 2012 2009 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2012 [Member]	Sep. 30, 2012 2009 Plan [Member] Restricted Stock Units (RSUs) [Member] In 2012 [Member]
Share-based Compensation Arrangement by Share-based Payment Award [Line Items]
Award vesting period		5 years	3 years	3 years							5 years
Plan expiration date	May 13, 2009
Expiration period	10 years
Granted (in shares)					3,000		2,000	1,750				5,355	29,514
Grant date fair value (in dollars per share)					$ 17.40		$ 11.37	$ 12.80				$ 8.25	$ 7.90
Unrecognized compensation cost related to restricted stock grants						$ 0			$ 0					$ 264,000
Stock reserved for issuance (in shares)										330,486
Terms of Award										All rights must be granted or awarded within ten years from the May 7, 2009 effective date of the 2009 Plan.
Forfeited restricted stock units (in shares)											5,355

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Fair Value (Details) (Recurring [Member], USD $) In Thousands, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Mortgage-backed securities	$ 160,086	$ 213,693
U.S. Government sponsored enterprises	1,294	7,694
State and political subdivisions	116,149	97,097
Corporate bonds	1,551	543
Trust preferred securities	1,250	1,250
Equity securities	1,455	1,111
Mortgage loans held for sale	5,984	5,146
Level 1 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Mortgage-backed securities	0	0
U.S. Government sponsored enterprises	0	0
State and political subdivisions	0	0
Corporate bonds	0	0
Trust preferred securities	0	0
Equity securities	1,455	1,111
Mortgage loans held for sale	0	0
Level 2 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Mortgage-backed securities	160,086	208,349
U.S. Government sponsored enterprises	1,294	7,694
State and political subdivisions	116,149	97,097
Corporate bonds	1,551	543
Trust preferred securities	0	0
Equity securities	0	0
Mortgage loans held for sale	0	0
Level 3 Valuation [Member]
Fair Value, Assets and Liabilities Measured on Recurring and Nonrecurring Basis [Line Items]
Mortgage-backed securities	0	5,344
U.S. Government sponsored enterprises	0	0
State and political subdivisions	0	0
Corporate bonds	0	0
Trust preferred securities	1,250	1,250
Equity securities	0	0
Mortgage loans held for sale	$ 5,984	$ 5,146

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Investment Securities

9 Months Ended

Sep. 30, 2012

Investment Securities [Abstract]

Investment Securities

(2)    Investment Securities

Investment securities available for sale at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
	September 30, 2012
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	158,548	1,982	444	160,086
U.S. Government
sponsored enterprises		1,254	40	-	1,294
State and political subdivisions		109,456	6,739	46	116,149
Corporate bonds		1,535	16	-	1,551
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	707	-	1,455
Total	$	272,791	9,484	490	281,785
(Dollars in thousands)
	December 31, 2011
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	213,378	1,371	1,056	213,693
U.S. Government
sponsored enterprises		7,429	265	-	7,694
State and political subdivisions		92,996	4,157	56	97,097
Corporate bonds		546	-	3	543
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	363	-	1,111
Total	$	316,347	6,156	1,115	321,388

The current fair value and associated unrealized losses on investments in securities with unrealized losses at September 30, 2012 and December 31, 2011 are summarized in the tables below, with the length of time the individual securities have been in a continuous loss position.

(Dollars in thousands)
	September 30, 2012
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	38,125	379	5,750	65	43,875	444
State and political subdivisions		4,406	46	-	-	4,406	46
Total	$	42,531	425	5,750	65	48,281	490
(Dollars in thousands)
	December 31, 2011
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	95,122	991	4,125	65	99,247	1,056
State and political subdivisions		4,444	56	-	-	4,444	56
Corporate bonds		542	3	-	-	542	3
Total	$	100,108	1,050	4,125	65	104,233	1,115

At September 30, 2012, unrealized losses in the investment securities portfolio relating to debt securities totaled $490,000.  The unrealized losses on these debt securities arose due to changing interest rates and are considered to be temporary.  From the September 30, 2012 tables above, seven out of 143 securities issued by state and political subdivisions contained unrealized losses and 21 out of 86 securities issued by U.S. Government sponsored enterprises, including mortgage-backed securities, contained unrealized losses.  These unrealized losses are considered temporary because of acceptable investment grades on each security and the repayment sources of principal and interest are government backed.

The amortized cost and estimated fair value of investment securities available for sale at September 30, 2012, by contractual maturity, are shown below. Expected maturities of mortgage-backed securities will differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

(Dollars in thousands)
	Amortized Cost		Estimated Fair Value
Due within one year	$	3,611	3,653
Due from one to five years		12,117	12,581
Due from five to ten years		84,014	89,146
Due after ten years		13,753	14,864
Mortgage-backed securities		158,548	160,086
Equity securities		748	1,455
Total	$	272,791	281,785

Proceeds from sales of securities available for sale during the nine months ended September 30, 2012 were $47.0 million and resulted in gross gains of $1.3 million and gross losses of $103,000.  Proceeds from sales of securities available for sale during the nine months ended September 30, 2011 were $72.3 million and resulted in gross gains of $2.5 million and gross losses of $9,000.

Securities with a fair value of approximately $88.8 million and $83.6 million at September 30, 2012 and December 31, 2011, respectively, were pledged to secure public deposits and for other purposes as required by law.

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Fair Value, Unobservable Input Reconciliation (Details) (Investment securities available for sale [Member], USD $) In Thousands, unless otherwise specified	9 Months Ended
	Sep. 30, 2012
Investment securities available for sale [Member]
Fair Value, Assets Measured on Recurring Basis, Unobservable Input Reconciliation [Line Items]
Balance, beginning of period	$ 6,594
Change in book value	0
Change in gain/(loss) realized and unrealized	0
Purchases/(sales)	0
Transfers in and/or (out) of Level 3	(5,344)
Balance, end of period	1,250
Change in unrealized gain/(loss) for assets still held in Level 3	$ 0

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Consolidated Balance Sheets (Unaudited) (USD $) In Thousands, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011
Assets
Cash and due from banks, including reserve requirements of $9,620 in 2012 and $8,492 in 2011	$ 24,323	$ 22,532
Interest bearing deposits	31,581	6,704
Cash and cash equivalents	55,904	29,236
Investment securities available for sale	281,785	321,388
Other investments	5,599	5,712
Total securities	287,384	327,100
Mortgage loans held for sale	5,984	5,146
Loans	625,782	670,497
Less allowance for loan losses	(16,551)	(16,604)
Net loans	609,231	653,893
Premises and equipment, net	16,091	16,896
Cash surrender value of life insurance	13,142	12,835
Other real estate	6,595	7,576
Accrued interest receivable and other assets	12,277	14,381
Total assets	1,006,608	1,067,063
Deposits:
Non-interest bearing demand	152,281	136,878
NOW, MMDA & savings	354,386	366,133
Time, $100,000 or more	143,189	193,045
Other time	118,614	131,055
Total deposits	768,470	827,111
Securities sold under agreements to repurchase	43,136	39,600
FHLB borrowings	70,000	70,000
Junior subordinated debentures	20,619	20,619
Accrued interest payable and other liabilities	7,549	6,706
Total liabilities	909,774	964,036
Commitments
Shareholders' equity:
Series A preferred stock, $1,000 stated value; authorized 5,000,000 shares; issued and outstanding 12,524 shares in 2012 and 25,054 shares in 2011	12,524	24,758
Common stock, no par value; authorized 20,000,000 shares; issued and outstanding 5,596,978 shares in 2012 and 5,544,160 shares in 2011	48,004	48,298
Retained earnings	30,815	26,895
Accumulated other comprehensive income	5,491	3,076
Total shareholders' equity	96,834	103,027
Total liabilities and shareholders' equity	$ 1,006,608	$ 1,067,063

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Consolidated Statements of Cash Flows (Unaudited) (USD $) In Thousands, unless otherwise specified	9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011
Cash flows from operating activities:
Net earnings	$ 4,580	$ 3,382
Adjustments to reconcile net earnings to net cash provided by operating activities:
Depreciation, amortization and accretion	6,651	3,915
Provision for loan losses	4,413	9,696
Gain on sale of investment securities	(1,203)	(2,495)
Loss on sale of other real estate	21	181
Write-down of other real estate	689	845
Restricted stock expense	17	5
Change in:
Mortgage loans held for sale	(838)	1,666
Cash surrender value of life insurance	(307)	(182)
Other assets	565	1,546
Other liabilities	826	438
Net cash provided by operating activities	15,414	18,997
Cash flows from investing activities:
Net change in certificates of deposit	0	735
Purchases of investment securities available for sale	(55,617)	(158,631)
Proceeds from calls, maturities and paydowns of investment securities available for sale	48,123	39,813
Proceeds from sales of investment securities available for sale	47,062	72,292
Purchases of other investments	(493)	(215)
Proceeds from sale of other investments	606	197
Net change in loans	35,910	36,659
Purchases of premises and equipment	(657)	(775)
Purchases of bank owned life insurance	0	(5,000)
Proceeds from sale of other real estate	4,611	2,656
Net cash provided (used) by investing activities	79,545	(12,269)
Cash flows from financing activities:
Net change in deposits	(58,641)	2,329
Net change in demand notes payable to U.S. Treasury	0	(504)
Net change in securities sold under agreement to repurchase	3,536	13,607
Proceeds from FHLB borrowings	25,400	5,000
Repayments of FHLB borrowings	(25,400)	(5,000)
Preferred stock repurchase	(11,695)	0
Warrant repurchase	(425)	0
Restricted stock payout	0	9
Stock options exercised	410	0
Cash dividends paid on preferred stock	(866)	(940)
Cash dividends paid on common stock	(610)	(333)
Net cash (used) provided by financing activities	(68,291)	14,168
Net change in cash and cash equivalent	26,668	20,896
Cash and cash equivalents at beginning of period	29,236	23,977
Cash and cash equivalents at end of period	55,904	44,873
Cash paid during the year for:
Interest	6,609	8,613
Income taxes	1,190	132
Noncash investing and financing activities:
Change in unrealized gain on investment securities available for sale, net	2,414	(4,370)
Change in unrealized gain on derivative financial instruments, net	0	395
Transfer of loans to other real estate and repossessions	4,669	7,041
Financed portion of sale of other real estate	330	4,047
Accretion of Series A preferred stock	70	106
Discount on preferred stock	$ 835	$ 0

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Derivative Instruments and Hedging Activities (Details) (Cash Flow Hedging [Member], Interest Rate Derivative Contract [Member], USD $) In Thousands, unless otherwise specified	9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011
Derivative Instruments, Gain (Loss) [Line Items]
Amount of Gain (Loss) Recognized in Accumulated OCI on Derivatives	$ 0	$ (20)
Interest Income [Member]
Derivative Instruments, Gain (Loss) [Line Items]
Amount of Gain (Loss) Reclassified from Accumulated OCI into Income	$ 0	$ 628

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Investment Securities (Details) (USD $)	9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011	Dec. 31, 2011
Investment securities available for sale [Abstract]
Amortized Cost	$ 272,791,000		$ 316,347,000
Gross Unrealized Gains	9,484,000		6,156,000
Gross Unrealized Losses	490,000		1,115,000
Estimated Fair Value	281,785,000		321,388,000
Investment securities with continuous unrealized loss position [Abstract]
Less than 12 Months, Fair Value	42,531,000		100,108,000
12 Months or More, Fair Value	5,750,000		4,125,000
Total, Fair Value	48,281,000		104,233,000
Less than 12 Months, Unrealized Losses	425,000		1,050,000
12 Months or More, Unrealized Losses	65,000		65,000
Total, Unrealized Losses	490,000		1,115,000
Unrealized losses in investment securities	490,000
Amortized Cost [Abstract]
Due within one year	3,611,000
Due from one to five years	12,117,000
Due from five to ten years	84,014,000
Due after ten years	13,753,000
Mortgage-backed securities	158,548,000
Equity securities	748,000
Total	272,791,000
Estimated Fair Value [Abstract]
Due within one year	3,653,000
Due from one to five years	12,581,000
Due from five to ten years	89,146,000
Due after ten years	14,864,000
Mortgage-backed securities	160,086,000
Equity securities	1,455,000
Total	281,785,000
Proceeds from sales of securities available for sale	47,062,000	72,292,000
Gross gains on sales of securities available for sale	1,300,000	2,500,000
Gross loss on sale of securities available for sale	103,000	9,000
Securities pledged to secure public deposits and for other purposes, fair value	88,800,000		83,600,000
Mortgage-backed securities [Member]
Investment securities available for sale [Abstract]
Amortized Cost	158,548,000		213,378,000
Gross Unrealized Gains	1,982,000		1,371,000
Gross Unrealized Losses	444,000		1,056,000
Estimated Fair Value	160,086,000		213,693,000
Investment securities with continuous unrealized loss position [Abstract]
Less than 12 Months, Fair Value	38,125,000		95,122,000
12 Months or More, Fair Value	5,750,000		4,125,000
Total, Fair Value	43,875,000		99,247,000
Less than 12 Months, Unrealized Losses	379,000		991,000
12 Months or More, Unrealized Losses	65,000		65,000
Total, Unrealized Losses	444,000		1,056,000
U.S. Government sponsored enterprises [Member]
Investment securities available for sale [Abstract]
Amortized Cost	1,254,000		7,429,000
Gross Unrealized Gains	40,000		265,000
Gross Unrealized Losses	0		0
Estimated Fair Value	1,294,000		7,694,000
Investment securities with continuous unrealized loss position [Abstract]
Number of securities issued with unrealized losses	21
State and political subdivisions [Member]
Investment securities available for sale [Abstract]
Amortized Cost	109,456,000		92,996,000
Gross Unrealized Gains	6,739,000		4,157,000
Gross Unrealized Losses	46,000		56,000
Estimated Fair Value	116,149,000		97,097,000
Investment securities with continuous unrealized loss position [Abstract]
Less than 12 Months, Fair Value	4,406,000		4,444,000
12 Months or More, Fair Value	0		0
Total, Fair Value	4,406,000		4,444,000
Less than 12 Months, Unrealized Losses	46,000		56,000
12 Months or More, Unrealized Losses	0		0
Total, Unrealized Losses	46,000		56,000
Number of securities issued with unrealized losses	7
Corporate bonds [Member]
Investment securities available for sale [Abstract]
Amortized Cost	1,535,000		546,000
Gross Unrealized Gains	16,000		0
Gross Unrealized Losses	0		3,000
Estimated Fair Value	1,551,000		543,000
Investment securities with continuous unrealized loss position [Abstract]
Less than 12 Months, Fair Value			542,000
12 Months or More, Fair Value			0
Total, Fair Value			542,000
Less than 12 Months, Unrealized Losses			3,000
12 Months or More, Unrealized Losses			0
Total, Unrealized Losses			3,000
Trust preferred securities [Member]
Investment securities available for sale [Abstract]
Amortized Cost	1,250,000		1,250,000
Gross Unrealized Gains	0		0
Gross Unrealized Losses	0		0
Estimated Fair Value	1,250,000		1,250,000
Equity securities [Member]
Investment securities available for sale [Abstract]
Amortized Cost	748,000		748,000
Gross Unrealized Gains	707,000		363,000
Gross Unrealized Losses	0		0
Estimated Fair Value	$ 1,455,000		$ 1,111,000
Maximum [Member] | U.S. Government sponsored enterprises [Member]
Investment securities with continuous unrealized loss position [Abstract]
Number of securities issued with unrealized losses	86
Maximum [Member] | State and political subdivisions [Member]
Investment securities with continuous unrealized loss position [Abstract]
Number of securities issued with unrealized losses	143

XML

TARP Repurchase (Details) (USD $)	0 Months Ended
	Aug. 08, 2012	Jul. 03, 2012	Sep. 30, 2012	Dec. 31, 2011
TARP Repurchase [Abstract]
Number of shares of preferred stock repurchased (in shares)		12,530
Preferred stock, shares outstanding (in shares)			12,524	25,054
Purchase price per share (in dollars per share)		$ 933.36
Total purchase price		$ 11,778,575.90
Accrued and unpaid dividends on preferred stock included in total purchase price		83,575.10
Number of shares retired (in shares)		12,530
Difference between book value and purchase price of preferred stock retired		834,999.20
Face value of preferred stock retired		12,530,000
Treasury stock, retired, purchase price		11,695,000.80
Number of common stock shares called by warrant (in shares)	357,234
Warrant purchase price	$ 425,000

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Loans, Past Due (Details) (USD $)	9 Months Ended		12 Months Ended
	Sep. 30, 2012	Sep. 30, 2011	Dec. 31, 2011
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	$ 11,583,000		$ 28,276,000
Loans 90 or More Days Past Due	9,119,000		10,530,000
Total Past Due Loans	20,702,000		38,806,000
Total Current Loans	605,080,000		631,691,000
Total loans	625,782,000		670,497,000
Accruing Loans 90 or More Days Past Due	2,398,000		2,709,000
Non-accrual loans	18,839,000		21,785,000
Threshold amount of impaired loans not individually evaluated for impairment	250,000
Accruing impaired loans	38,700,000	21,100,000	30,600,000
Interest income recognized on accruing impaired loans	1,400,000	897,000	1,700,000
Real Estate Loans - Construction and land development [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	1,513,000		10,033,000
Loans 90 or More Days Past Due	1,846,000		3,338,000
Total Past Due Loans	3,359,000		13,371,000
Total Current Loans	77,374,000		80,441,000
Total loans	80,733,000		93,812,000
Accruing Loans 90 or More Days Past Due	0		0
Non-accrual loans	10,866,000		13,257,000
Real Estate Loans - Single-family residential [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	8,145,000		16,536,000
Loans 90 or More Days Past Due	4,758,000		6,189,000
Total Past Due Loans	12,903,000		22,725,000
Total Current Loans	236,264,000		244,326,000
Total loans	249,167,000		267,051,000
Accruing Loans 90 or More Days Past Due	2,396,000		2,709,000
Non-accrual loans	4,255,000		5,522,000
Real estate loans - Commercial [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	743,000		1,002,000
Loans 90 or More Days Past Due	2,492,000		958,000
Total Past Due Loans	3,235,000		1,960,000
Total Current Loans	200,368,000		212,455,000
Total loans	203,603,000		214,415,000
Accruing Loans 90 or More Days Past Due	0		0
Non-accrual loans	3,239,000		2,451,000
Real Estate Loans - Multifamily and farmland [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	209,000		13,000
Loans 90 or More Days Past Due	0		0
Total Past Due Loans	209,000		13,000
Total Current Loans	4,755,000		4,780,000
Total loans	4,964,000		4,793,000
Accruing Loans 90 or More Days Past Due	0		0
Total real estate loans [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	10,610,000		27,584,000
Loans 90 or More Days Past Due	9,096,000		10,485,000
Total Past Due Loans	19,706,000		38,069,000
Total Current Loans	518,761,000		542,002,000
Total loans	538,467,000		580,071,000
Accruing Loans 90 or More Days Past Due	2,396,000		2,709,000
Non-accrual loans	18,360,000		21,230,000
Commercial (not secured by real estate) [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	854,000		576,000
Loans 90 or More Days Past Due	18,000		9,000
Total Past Due Loans	872,000		585,000
Total Current Loans	59,486,000		60,061,000
Total loans	60,358,000		60,646,000
Accruing Loans 90 or More Days Past Due	0		0
Non-accrual loans	457,000		403,000
Farm loans (not secured by real estate) [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	0
Loans 90 or More Days Past Due	0
Total Past Due Loans	0
Total Current Loans	12,000
Total loans	12,000		0
Accruing Loans 90 or More Days Past Due	0
Consumer loans (not secured by real estate) [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	119,000		116,000
Loans 90 or More Days Past Due	5,000		36,000
Total Past Due Loans	124,000		152,000
Total Current Loans	10,179,000		10,338,000
Total loans	10,303,000		10,490,000
Accruing Loans 90 or More Days Past Due	2,000		0
Non-accrual loans	22,000		152,000
All other loans (not secured by real estate) [Member]
Financing receivable, recorded investment, past due [Line Items]
Loans 30-89 Days Past Due	0		0
Loans 90 or More Days Past Due	0		0
Total Past Due Loans	0		0
Total Current Loans	16,642,000		19,290,000
Total loans	16,642,000		19,290,000
Accruing Loans 90 or More Days Past Due	$ 0		$ 0

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Summary of Significant Accounting Policies

9 Months Ended

Sep. 30, 2012

Summary of Significant Accounting Policies [Abstract]

Summary of Significant Accounting Policies

(1) Summary of Significant Accounting Policies

The consolidated financial statements include the financial statements of Peoples Bancorp of North Carolina, Inc. and its wholly-owned subsidiaries, Peoples Bank (the "Bank") and Community Bank Real Estate Solutions, LLC, along with the Bank's wholly-owned subsidiaries, Peoples Investment Services, Inc. and Real Estate Advisory Services, Inc. ("REAS") (collectively called the "Company").  All significant intercompany balances and transactions have been eliminated in consolidation.

The consolidated financial statements in this report (other than the Consolidated Balance Sheet at December 31, 2011) are unaudited.  In the opinion of management, all adjustments (none of which were other than normal accruals) necessary for a fair presentation of the financial position and results of operations for the periods presented have been included.  Management of the Company has made a number of estimates and assumptions relating to reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with generally accepted accounting principles in the United States ("GAAP").  Actual results could differ from those estimates.

The Company's accounting policies are fundamental to understanding management's discussion and analysis of results of operations and financial condition.  Many of the Company's accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of the specific accounting guidance.  A description of the Company's significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company's 2011 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 3, 2012 Annual Meeting of Shareholders.

Recently Issued Accounting Pronouncements

In April 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-02, A Creditor's Determination of Whether a Restructuring is a Troubled Debt Restructuring. ASU No. 2011-02 provides additional guidance for determining what constitutes a troubled debt restructuring.  ASU No. 2011-02 is effective for interim and annual periods ending after June 15, 2011.  The adoption of this guidance did not have a material impact on the Company's results of operations, financial position ordisclosures.

In May 2011, FASB issued ASU No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS").  ASU No. 2011-04 is intended to result in convergence between GAAP and IFRS requirements for measurement of and disclosures about fair value.  ASU No. 2011-04 is effective for interim and annual periods beginning after December 15, 2011.  The adoption of this guidance did not have a material impact on the Company's results of operations, financial position ordisclosures.

In June 2011, FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income.  ASU No. 2011-05 requires companies to present the components of net income and other comprehensive income either as one continuous statement or as two consecutive statements.  It eliminates the option to present components of other comprehensive income as part of the statement of changes in shareholders' equity.  ASU No. 2011-05 does not change the items which must be reported in other comprehensive income, how such items are measured or when they must be reclassified to net income. ASU No. 2011-05 is effective for interim and annual periods beginning after December 15, 2011.  Because ASU No. 2011-05 impacts presentation only, it has no impact on the Company's results of operations or financial position.

In December 2011, FASB issued ASU No. 2011-12, Comprehensive Income (Topic 220):Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.  ASU No. 2011-12defers the effective date of the requirement to present separate line items on the income statement for reclassification adjustments of items out of accumulated other comprehensive income into net income.  This deferral is temporary until  FASB reconsiders the operational concerns and needs of financial statement users.  FASB has not yet established a timetable for its reconsideration.  Entities are still required to present reclassification adjustments within other comprehensive income either on the face of the statement that reports other comprehensive income or in the notes to the financial statements.  The requirement to present comprehensive income in either a single continuous statement or two consecutive condensed statements remains for both annual and interim reporting.  Because ASU No. 2011-12 impacts presentation only, it will have no impact on the Company's results of operations or financial position.

Other accounting standards that have been issued or proposed by FASB or other standards-setting bodies are not expected to have a material impact on the Company's results ofoperations, financial position or disclosures.

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Consolidated Balance Sheets (Unaudited) (Parenthetical) (USD $) In Thousands, except Share data, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011
Assets
Cash and due from banks, reserve requirements	$ 9,620	$ 8,492
Shareholders' equity:
Series A preferred stock, stated value (in dollars per share)	$ 1,000	$ 1,000
Series A preferred stock, shares authorized (in shares)	5,000,000	5,000,000
Series A preferred stock, shares issued (in shares)	12,524	25,054
Series A preferred stock, shares outstanding (in shares)	12,524	25,054
Common stock, par value (in dollars per share)	$ 0	$ 0
Common stock, shares authorized (in shares)	20,000,000	20,000,000
Common stock, shares issued (in shares)	5,596,978	5,544,160
Common stock, shares outstanding (in shares)	5,596,978	5,544,160

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Investment Securities (Tables)

9 Months Ended

Sep. 30, 2012

Investment Securities [Abstract]

Investment securities available for sale

Investment securities available for sale at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
	September 30, 2012
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	158,548	1,982	444	160,086
U.S. Government
sponsored enterprises		1,254	40	-	1,294
State and political subdivisions		109,456	6,739	46	116,149
Corporate bonds		1,535	16	-	1,551
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	707	-	1,455
Total	$	272,791	9,484	490	281,785
(Dollars in thousands)
	December 31, 2011
	Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Estimated Fair Value
Mortgage-backed securities	$	213,378	1,371	1,056	213,693
U.S. Government
sponsored enterprises		7,429	265	-	7,694
State and political subdivisions		92,996	4,157	56	97,097
Corporate bonds		546	-	3	543
Trust preferred securities		1,250	-	-	1,250
Equity securities		748	363	-	1,111
Total	$	316,347	6,156	1,115	321,388

Current fair value and associated unrealized losses on investments in securities with unrealized losses

The current fair value and associated unrealized losses on investments in securities with unrealized losses at September 30, 2012 and December 31, 2011 are summarized in the tables below, with the length of time the individual securities have been in a continuous loss position.

(Dollars in thousands)
	September 30, 2012
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	38,125	379	5,750	65	43,875	444
State and political subdivisions		4,406	46	-	-	4,406	46
Total	$	42,531	425	5,750	65	48,281	490
(Dollars in thousands)
	December 31, 2011
	Less than 12 Months			12 Months or More		Total
	Fair Value		Unrealized Losses	Fair Value	Unrealized Losses	Fair Value	Unrealized Losses
Mortgage-backed securities	$	95,122	991	4,125	65	99,247	1,056
State and political subdivisions		4,444	56	-	-	4,444	56
Corporate bonds		542	3	-	-	542	3
Total	$	100,108	1,050	4,125	65	104,233	1,115

Amortized cost and fair value of investment securities by contractual maturity

The amortized cost and estimated fair value of investment securities available for sale at September 30, 2012, by contractual maturity, are shown below. Expected maturities of mortgage-backed securities will differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

(Dollars in thousands)
	Amortized Cost		Estimated Fair Value
Due within one year	$	3,611	3,653
Due from one to five years		12,117	12,581
Due from five to ten years		84,014	89,146
Due after ten years		13,753	14,864
Mortgage-backed securities		158,548	160,086
Equity securities		748	1,455
Total	$	272,791	281,785

XML

Document and Entity Information	9 Months Ended
	Sep. 30, 2012	Oct. 31, 2012
Document and Entity Information [Abstract]
Entity Registrant Name	PEOPLES BANCORP OF NORTH CAROLINA INC
Entity Central Index Key	0001093672
Current Fiscal Year End Date	--12-31
Entity Well-known Seasoned Issuer	No
Entity Voluntary Filers	No
Entity Current Reporting Status	Yes
Entity Filer Category	Smaller Reporting Company
Entity Common Stock, Shares Outstanding		5,596,978
Document Fiscal Year Focus	2012
Document Fiscal Period Focus	Q3
Document Type	10-Q
Amendment Flag	false
Document Period End Date	Sep. 30, 2012

XML

Loans (Tables)

9 Months Ended

Sep. 30, 2012

Loans [Abstract]

Major classifications of loans

Major classifications of loans at September 30, 2012 and December 31, 2011 are summarized as follows:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	80,733	93,812
Single-family residential		249,167	267,051
Commercial		203,603	214,415
Multifamily and farmland		4,964	4,793
Total real estate loans		538,467	580,071
Commercial loans (not secured by real estate)		60,358	60,646
Farm loans (not secured by real estate)		12	-
Consumer loans (not secured by real estate)		10,303	10,490
All other loans (not secured by real estate)		16,642	19,290
Total loans		625,782	670,497
Less allowance for loan losses		16,551	16,604
Total net loans	$	609,231	653,893

Age analysis of past due loans, by loan type

The following tables present an age analysis of past due loans, by loan type, as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	1,513	1,846	3,359	77,374	80,733	-
Single-family residential		8,145	4,758	12,903	236,264	249,167	2,396
Commercial		743	2,492	3,235	200,368	203,603	-
Multifamily and farmland		209	-	209	4,755	4,964	-
Total real estate loans		10,610	9,096	19,706	518,761	538,467	2,396
Commercial loans (not secured by real estate)		854	18	872	59,486	60,358	-
Farm loans (not secured by real estate)		-	-	-	12	12	-
Consumer loans (not secured by real estate)		119	5	124	10,179	10,303	2
All other loans (not secured by real estate)		-	-	-	16,642	16,642	-
Total loans	$	11,583	9,119	20,702	605,080	625,782	2,398

December 31, 2011
(Dollars in thousands)
	Loans 30-89 Days Past Due		Loans 90 or More Days Past Due	Total Past Due Loans	Total Current Loans	Total Loans	Accruing Loans 90 or More Days Past Due
Real estate loans
Construction and land development	$	10,033	3,338	13,371	80,441	93,812	-
Single-family residential		16,536	6,189	22,725	244,326	267,051	2,709
Commercial		1,002	958	1,960	212,455	214,415	-
Multifamily and farmland		13	-	13	4,780	4,793	-
Total real estate loans		27,584	10,485	38,069	542,002	580,071	2,709
Commercial loans (not secured by real estate)		576	9	585	60,061	60,646	-
Consumer loans (not secured by real estate)		116	36	152	10,338	10,490	-
All other loans (not secured by real estate)		-	-	-	19,290	19,290	-
Total loans	$	28,276	10,530	38,806	631,691	670,497	2,709

Non-accrual loans

The following table presents the Company's non-accrual loans as of September 30, 2012 and December 31, 2011:

(Dollars in thousands)
	September 30, 2012		December 31, 2011
Real estate loans
Construction and land development	$	10,866	13,257
Single-family residential		4,255	5,522
Commercial		3,239	2,451
Total real estate loans		18,360	21,230
Commercial loans (not secured by real estate)		457	403
Consumer loans (not secured by real estate)		22	152
Total	$	18,839	21,785

Impaired loans

The following tables present the Company's impaired loans as of September 30, 2012 and December 31, 2011:

September 30, 2012
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,090	12,832	7,437	20,269	1,821	13,806
Single-family residential		29,652	5,193	23,416	28,609	1,343	28,620
Commercial		7,903	6,953	317	7,270	114	5,565
Multifamily and farmland		200	200	-	200	-	201
Total impaired real estate loans		65,845	25,178	31,170	56,348	3,278	48,192
Commercial loans (not secured by real estate)		1,155	1,117	-	1,117	-	1,187
Consumer loans (not secured by real estate)		-	30	-	30	-	38
Total impaired loans	$	67,000	26,325	31,170	57,495	3,278	49,417

December 31, 2011
(Dollars in thousands)
	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance	Recorded Investment With Allowance	Recorded Investment in Impaired Loans	Related Allowance	Average Outstanding Impaired Loans
Real estate loans
Construction and land development	$	28,721	14,484	6,098	20,582	3,264	17,848
Single-family residential		26,382	969	24,719	25,688	1,427	25,102
Commercial		7,717	3,845	3,139	6,984	77	4,518
Multifamily and farmland		209	-	209	209	1	214
Total impaired real estate loans		63,029	19,298	34,165	53,463	4,769	47,682
Commercial loans (not secured by real estate)		1,111	-	1,083	1,083	26	1,485
Consumer loans (not secured by real estate)		157	-	152	152	2	140
Total impaired loans	$	64,297	19,298	35,400	54,698	4,797	49,307

Changes in the allowance for loan losses

Changes in the allowance for loan losses for the nine months ended September 30, 2012 and the year ended December 31, 2011 were as follows:

Nine months ended September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland	Commercial		Farm	Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	7,182		5,357		1,731		13	1,029		-	255		1,037	16,604
Charge-offs		(3,045	)	(1,149	)	(547	)	-	(498	)	-	(403	)	-	(5,642	)
Recoveries		522		71		374		-	95		-	115		-	1,177
Provision		1,733		817		(21	)	-	(18	)	-	222		1,679	4,412
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Ending balance: individually
evaluated for impairment	$	1,527		1,637		114		-	-		-	-		-	3,278
Ending balance: collectively
evaluated for impairment		4,865		3,459		1,423		13	608		-	189		2,716	13,273
Ending balance	$	6,392		5,096		1,537		13	608		-	189		2,716	16,551
Loans:
Ending balance	$	80,733		249,167		203,603		4,964	60,358		12	26,945		-	625,782
Ending balance: individually
evaluated for impairment	$	19,734		23,770		6,798		-	346		-	-		-	50,648
Ending balance: collectively
evaluated for impairment	$	60,999		225,397		196,805		4,964	60,012		12	26,945		-	575,134

Year ended December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development			Single- Family Residential		Commercial		Multifamily and Farmland		Commercial		Consumer and All Other		Unallocated	Total
Allowance for loan losses:
Beginning balance	$	5,774		6,097		1,409		17		1,174		430		592	15,493
Charge-offs		(7,164	)	(2,925	)	(1,271	)	-		(314	)	(586	)	-	(12,260	)
Recoveries		241		201		24		-		121		152		-	739
Provision		8,331		1,984		1,569		(4	)	48		259		445	12,632
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Ending balance: individually
evaluated for impairment	$	1,250		1,289		-		-		-		-		-	2,539
Ending balance: collectively
evaluated for impairment		5,932		4,068		1,731		13		1,029		255		1,037	14,065
Ending balance	$	7,182		5,357		1,731		13		1,029		255		1,037	16,604
Loans:
Ending balance	$	93,812		267,051		214,415		4,793		60,646		29,780		-	670,497
Ending balance: individually
evaluated for impairment	$	20,280		20,661		3,845		-		-		-		-	44,786
Ending balance: collectively
evaluated for impairment	$	73,532		246,390		210,570		4,793		60,646		29,780		-	625,711

Credit risk profile of each loan type based on internally assigned risk grade

The following tables present the credit risk profile of each loan type based on internally assigned risk grades as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Farm	Consumer	All Other	Total
1- Excellent Quality	$	192	23,029	-	-	954	-	1,350	-	25,525
2- High Quality		5,132	58,651	24,297	36	9,737	-	4,213	2,376	104,442
3- Good Quality		23,443	88,980	116,735	2,647	36,287	12	4,226	14,261	286,591
4- Management Attention		24,565	48,969	49,292	1,364	12,103	-	388	5	136,686
5- Watch		8,177	11,249	8,609	717	351	-	89	-	29,192
6- Substandard		19,224	18,289	4,670	200	926	-	37	-	43,346
7- Low Substandard		-	-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	-	-	-	-
Total	$	80,733	249,167	203,603	4,964	60,358	12	10,303	16,642	625,782

December 31, 2011
(Dollars in thousands)
	Real Estate Loans
	Construction and Land Development		Single- Family Residential	Commercial	Multifamily and Farmland	Commercial	Consumer	All Other	Total
1- Excellent Quality	$	197	25,474	-	-	715	1,344	-	27,730
2- High Quality		5,183	64,817	25,506	50	8,801	4,070	2,774	111,201
3- Good Quality		27,675	100,388	136,137	3,448	36,585	4,259	16,509	325,001
4- Management Attention		28,138	50,253	40,312	358	12,882	429	7	132,379
5- Watch		15,923	11,767	2,795	728	622	89	-	31,924
6- Substandard		16,696	14,352	9,665	209	1,041	154	-	42,117
7- Low Substandard		-	-	-	-	-	-	-	-
8- Doubtful		-	-	-	-	-	-	-	-
9- Loss		-	-	-	-	-	145	-	145
Total	$	93,812	267,051	214,415	4,793	60,646	10,490	19,290	670,497

Analysis of TDR loans by loan type

The following table presents an analysis of TDR loans by loan type as of September 30, 2012 and December 31, 2011.

September 30, 2012
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	20	$	16,735	9,824
Single-family residential	97		10,965	10,118
Commercial	5		3,136	981
Multifamily and Farmland	1		322	200
Total real estate TDR loans	123		31,158	21,123
Commercial loans (not secured by real estate)	14		1,271	706
Consumer loans (not secured by real estate)	1		2	6
Total TDR loans	138	$	32,431	21,835

December 31, 2011
(Dollars in thousands)
	Number of Contracts	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Real estate loans
Construction and land development	29	$	19,762	12,840
Single-family residential	241		25,541	24,846
Commercial	15		7,200	5,013
Multifamily and Farmland	1		322	209
Total real estate TDR loans	286		52,825	42,908
Commercial loans (not secured by real estate)	21		1,711	1,083
Consumer loans (not secured by real estate)	8		124	142
Total TDR loans	315	$	54,660	44,133

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Consolidated Statements of Earnings (Unaudited) (USD $) In Thousands, except Per Share data, unless otherwise specified	3 Months Ended		9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011	Sep. 30, 2012	Sep. 30, 2011
Interest income:
Interest and fees on loans	$ 8,170	$ 8,921	$ 24,822	$ 27,695
Interest on due from banks	15	4	34	19
Interest on investment securities:
U.S. Government sponsored enterprises, including mortgage-backed securities	519	1,504	2,327	3,998
States and political subdivisions	877	792	2,463	2,387
Other	74	70	206	171
Total interest income	9,655	11,291	29,852	34,270
Interest expense:
NOW, MMDA & savings deposits	274	517	913	1,836
Time deposits	737	1,221	2,632	3,901
FHLB borrowings	689	761	2,064	2,258
Junior subordinated debentures	110	100	332	300
Other	32	74	105	231
Total interest expense	1,842	2,673	6,046	8,526
Net interest income	7,813	8,618	23,806	25,744
Provision for loan losses	761	3,378	4,413	9,696
Net interest income after provision for loan losses	7,052	5,240	19,393	16,048
Non-interest income:
Service charges	1,222	1,273	3,601	3,845
Other service charges and fees	417	493	1,532	1,603
Gain on sale of securities	12	1,239	1,203	2,495
Mortgage banking income	296	127	793	531
Insurance and brokerage commissions	150	121	404	350
Loss on sale and write-down of other real estate	(326)	(318)	(710)	(1,026)
Miscellaneous	1,115	787	3,035	2,233
Total non-interest income	2,886	3,722	9,858	10,031
Non-interest expense:
Salaries and employee benefits	4,187	3,489	11,960	10,829
Occupancy	1,291	1,334	3,891	4,030
Other	2,678	2,341	7,420	7,083
Total non-interest expense	8,156	7,164	23,271	21,942
Earnings before income taxes	1,782	1,798	5,980	4,137
Income tax expense	369	406	1,400	755
Net earnings	1,413	1,392	4,580	3,382
Dividends and accretion on preferred stock	157	348	853	1,045
Net earnings available to common shareholders	$ 1,256	$ 1,044	$ 3,727	$ 2,337
Basic and diluted net earnings per common share (in dollars per share)	$ 0.23	$ 0.19	$ 0.67	$ 0.42
Cash dividends declared per common share (in dollars per share)	$ 0.02	$ 0.02	$ 0.11	$ 0.04

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Fair Value

9 Months Ended

Sep. 30, 2012

Fair Value [Abstract]

Fair Value

(6) Fair Value

The Company is required to disclose fair value information about financial instruments, whether or not recognized on the face of the balance sheet, for which it is practicable to estimate that value. The assumptions used in the estimation of the fair value of the Company's financial instruments are detailed below. Where quoted prices are not available, fair values are based on estimates using discounted cash flows and other valuation techniques. The use of discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following disclosures should not be considered a surrogate of the liquidation value of the Company, but rather a good faith estimate of the increase or decrease in the value of financial instruments held by the Company since purchase, origination, or issuance.

The Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.  These levels are:

·   Level 1 – Valuation is based upon quoted prices for identical instruments traded in active markets.

·   Level 2 – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.

·   Level 3 – Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market.  These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.

Cash and Cash Equivalents

For cash, due from banks and interest-bearing deposits, the carrying amount is a reasonable estimate of fair value.

Investment Securities Available for Sale

Fair values of investment securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges when available.  If quoted prices are not available, fair value is determined using matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities' relationship to other benchmark quoted securities.  Fair values for investment securities with quoted market prices are reported in the Level 1 fair value category.  Fair value measurements obtained from independent pricing services are reported in the Level 2 fair value category.  All other fair value measurements are reported in the Level 3 fair value category.

Other Investments

For other investments, the carrying value is a reasonable estimate of fair value.

Mortgage Loans Held for Sale

Mortgage loans held for sale are carried at lower of aggregate cost or market value.  The cost of mortgage loans held for sale approximates the market value.  Mortgage loans held for sale are reported  in the Level 3 fair value category.

Loans

The fair value of fixed rate loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings. For variable rate loans, the carrying amount is a reasonable estimate of fair value.  Impaired loans with current certified appraisals are included in the Level 2 fair value category.  All other loans are included in the Level 3 fair value category, as the pricing of loans is more subjective than the pricing of other financial instruments.

Cash Surrender Value of Life Insurance

For cash surrender value of life insurance, the carrying value is a reasonable estimate of fair value.

Other Real Estate

The fair value of other real estate is based upon independent market prices, appraised values of the collateral or management's estimation of the value of the collateral.  Other real estate is reported in the Level 3 fair value category.

Derivative Instruments

For derivative instruments, fair value is estimated as the amount that the Company would receive or pay to terminate the contracts at the reporting date, taking into account the current unrealized gains or losses on open contracts.

Deposits

The fair value of demand deposits, interest-bearing demand deposits and savings is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities.

Securities Sold Under Agreements to Repurchase

For securities sold under agreements to repurchase, the carrying value is a reasonable estimate of fair value.

Federal Home Loan Bank ("FHLB") Borrowings

The fair value of FHLB borrowings is estimated based upon discounted future cash flows using a discount rate comparable to the current market rate for such borrowings.

Junior Subordinated Debentures

Because the Company's junior subordinated debentures were issued at a floating rate, the carrying amount is a reasonable estimate of fair value.

Commitments to Extend Credit and Standby Letters of Credit

Commitments to extend credit and standby letters of credit are generally short-term and at variable interest rates. Therefore, both the carrying value and estimated fair value associated with these instruments are immaterial.

Limitations

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company's financial instruments, fair value estimates are based on many judgments. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair value estimates are based on existing on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial instruments include deferred income taxes and premises and equipment. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

GAAP establishes a framework for measuring fair value and expands disclosures about fair value measurements. There is a three-level fair value hierarchy for fair value measurements.  Level 1 inputs are quoted prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.   The following tables present the balance of securities available for sale and mortgage loans held for sale, which are measured at fair value on a recurring basis by level within the fair value hierarchy as of September 30, 2012 and December 31, 2011.

(Dollars in thousands)
	September 30, 2012
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	160,086	-	160,086	-
U.S. Government
sponsored enterprises	$	1,294	-	1,294	-
State and political subdivisions	$	116,149	-	116,149	-
Corporate bonds	$	1,551	-	1,551	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,455	1,455	-	-
Mortgage loans held for sale	$	5,984	-	-	5,984

(Dollars in thousands)
	December 31, 2011
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	213,693	-	208,349	5,344
U.S. Government
sponsored enterprises	$	7,694	-	7,694	-
State and political subdivisions	$	97,097	-	97,097	-
Corporate bonds	$	543	-	543	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,111	1,111	-	-
Mortgage loans held for sale	$	5,146	-	-	5,146

The following is an analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs, for the nine months ended September 30, 2012.  Transfers out of Level 3 during the nine months ended September 30, 2012 are attributable to one available for sale security reported in Level 3 at December 31, 2011 because market pricing was unavailable from the Bank's third party bond accounting provider at that time.  This security was reported in Level 2 at September 30, 2012, as the market valuation was provided by the Bank's third party bond accounting provider.

(Dollars in thousands)
	Investment Securities Available for Sale
	Level 3 Valuation
Balance, beginning of period	$	6,594
Change in book value		-
Change in gain/(loss) realized and unrealized		-
Purchases/(sales)		-
Transfers in and/or (out) of Level 3		(5,344	)
Balance, end of period	$	1,250
Change in unrealized gain/(loss) for assets still held in Level 3	$	-

The Company's September 30, 2012 and December 31, 2011 fair value measurement for impaired loans and other real estate on a non-recurring basis is presented below:

(Dollars in thousands)
	Fair Value Measurements September 30, 2012		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Nine Months Ended September 30, 2012
Impaired loans	$	57,495	-	-	57,495	(5,408	)
Other real estate	$	6,595	-	-	6,595	(710	)

(Dollars in thousands)
	Fair Value Measurements December 31, 2011		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Year Ended December 31, 2011
Impaired loans	$	49,901	-	431	49,470	(11,864	)
Other real estate	$	7,576	-	-	7,576	(1,322	)

The carrying amount and estimated fair value of the Company's financial instruments at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
			Fair Value Measurements at September 30, 2012
	Carrying Amount		Level 1	Level 2	Level 3	Total
Assets:
Cash and cash equivalents	$	55,904	55,904	-	-	55,904
Investment securities available for sale		281,785	1,455	279,080	1,250	281,785
Other investments		5,599	-	-	5,599	5,599
Mortgage loans held for sale		5,984	-	-	5,984	5,984
Loans, net		609,231	-	-	604,690	604,690
Cash surrender value of life insurance		13,142	-	13,142	-	13,142
Liabilities:
Deposits	$	768,470	-	767,543	-	767,543
Securities sold under agreements
to repurchase		43,136	-	43,136	-	43,136
FHLB borrowings		70,000	-	75,938	-	75,938
Junior subordinated debentures		20,619	-	20,619	-	20,619

(Dollars in thousands)
	December 31, 2011
	Carrying Amount		Estimated Fair Value
Assets:
Cash and cash equivalents	$	29,236	29,236
Investment securities available for sale		321,388	321,388
Other investments		5,712	5,712
Mortgage loans held for sale		5,146	5,146
Loans, net		653,893	648,640
Cash surrender value of life insurance		12,835	12,835
Liabilities:
Deposits and demand notes payable	$	827,111	826,810
Securities sold under agreements
to repurchase		39,600	39,600
FHLB borrowings		70,000	75,046
Junior subordinated debentures		20,619	20,619

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Stock-Based Compensation

9 Months Ended

Sep. 30, 2012

Stock Based Compensation [Abstract]

Stock-Based Compensation

(5)     Stock-Based Compensation

The Company has an Omnibus Stock Ownership and Long Term Incentive Plan (the "1999 Plan") whereby certain stock-based rights, such as stock options, restricted stock, restricted stock units, performance units, stock appreciation rights, or book value shares, may be granted to eligible directors and employees.

Under the 1999 Plan, the Company granted incentive stock options to certain eligible employees in order that they may purchase Company stock at a price equal to the fair market value on the date of the grant.  The options granted in 1999 vested over a five-year period.  Options granted subsequent to 1999 vested over a three-year period.  All options expire ten years after issuance.   The 1999 Plan expired on May 13, 2009.

The Company granted 3,000 restricted stock units in 2007 at a grant date fair value of $17.40 per share. The Company granted 1,750 restricted stock units at a grant date fair value of $12.80 per share during the third quarter of 2008 and 2,000 restricted stock units at a fair value of $11.37 per share during the fourth quarter of 2008. The Company recognizes compensation expense on the restricted stock units over the period of time the restrictions are in place (three years from the grant date for the grants to date under the 1999 Plan).  The amount of expense recorded each period reflects the changes in the Company's stock price during the period.  As of September 30, 2012, there was no unrecognized compensation cost related to the 2007 and 2008 restricted stock unit grants.

The Company also has an Omnibus Stock Ownership and Long Term Incentive Plan that was approved by shareholders' on May 7, 2009 (the "2009 Plan") whereby certain stock-based rights, such as stock options, restricted stock, restricted stock units, performance units, stock appreciation rights, or book value shares, may be granted to eligible directors and employees.  A total of 330,486 shares are currently reserved for possible issuance under the 2009 Plan.   All rights must be granted or awarded within ten years from the May 7, 2009 effective date of the 2009 Plan.

The Company granted 29,514 restricted stock units in March 2012 at a grant date fair value of $7.90 per share.   5,355 restricted stock units were forfeited by the executive officers of the Company as required by the agreement with the U.S. Department of the Treasury ("UST") in conjunction with the Company's participation in the Capital Purchase Program ("CPP") under the Troubled Asset Relief Program ("TARP") in 2008.  In July 2012, the Company granted 5,355 restricted stock units at a grant date fair value of $8.25. The Company recognizes compensation expense on the restricted stock units over the period of time the restrictions are in place (five years from the grant date for the grants to date under the 2009 Plan).  The amount of expense recorded each period reflects the changes in the Company's stock price during the period.  As of September 30, 2012, the total unrecognized compensation cost related to the 2012 restricted stock unit grants was $264,000.

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Loans (Details) (USD $) In Thousands, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011	Dec. 31, 2010
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	$ 625,782	$ 670,497
Less allowance for loan losses	16,551	16,604	15,493
Net loans	609,231	653,893
Real Estate Loans - Construction and land development [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	80,733	93,812
Less allowance for loan losses	6,392	7,182	5,774
Real Estate Loans - Single-family residential [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	249,167	267,051
Less allowance for loan losses	5,096	5,357	6,097
Real estate loans - Commercial [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	203,603	214,415
Less allowance for loan losses	1,537	1,731	1,409
Real Estate Loans - Multifamily and farmland [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	4,964	4,793
Less allowance for loan losses	13	13	17
Total real estate loans [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	538,467	580,071
Commercial (not secured by real estate) [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	60,358	60,646
Less allowance for loan losses	608	1,029	1,174
Farm loans (not secured by real estate) [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	12	0
Less allowance for loan losses	0	0
Consumer loans (not secured by real estate) [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	10,303	10,490
All other loans (not secured by real estate) [Member]
Accounts, Notes, Loans and Financing Receivable [Line Items]
Total Loans	$ 16,642	$ 19,290

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Net Earnings Per Common Share (Tables)

9 Months Ended

Sep. 30, 2012

Net Earnings Per Common Share [Abstract]

Reconciliation of basic and diluted earnings per common share

The reconciliation of the amounts used in the computation of both "basic earnings per common share" and "diluted earnings per common share" for the three and nine months ended September 30, 2012 and 2011 is as follows:

For the three months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,256	5,559,016	$	0.23
Effect of dilutive securities:
Stock options		-	2,570
Diluted earnings per common share	$	1,256	5,561,586	$	0.23

For the nine months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	3,727	5,549,148	$	0.67
Effect of dilutive securities:
Stock options		-	2,168
Diluted earnings per common share	$	3,727	5,551,316	$	0.67

For the three months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,044	5,542,703	$	0.19
Effect of dilutive securities:
Stock options		-	1,922
Diluted earnings per common share	$	1,044	5,544,625	$	0.19

For the nine months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	2,337	5,542,126	$	0.42
Effect of dilutive securities:
Stock options		-	1,739
Diluted earnings per common share	$	2,337	5,543,865	$	0.42

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Summary of Significant Accounting Policies (Policies)

9 Months Ended

Sep. 30, 2012

Summary of Significant Accounting Policies [Abstract]

Consolidation

The consolidated financial statements include the financial statements of Peoples Bancorp of North Carolina, Inc. and its wholly-owned subsidiaries, Peoples Bank (the "Bank") and Community Bank Real Estate Solutions, LLC, along with the Bank's wholly-owned subsidiaries, Peoples Investment Services, Inc. and Real Estate Advisory Services, Inc. ("REAS") (collectively called the "Company").  All significant intercompany balances and transactions have been eliminated in consolidation.

Use of estimates

The consolidated financial statements in this report (other than the Consolidated Balance Sheet at December 31, 2011) are unaudited.  In the opinion of management, all adjustments (none of which were other than normal accruals) necessary for a fair presentation of the financial position and results of operations for the periods presented have been included.  Management of the Company has made a number of estimates and assumptions relating to reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with generally accepted accounting principles in the United States ("GAAP").  Actual results could differ from those estimates.

The Company's accounting policies are fundamental to understanding management's discussion and analysis of results of operations and financial condition.  Many of the Company's accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of the specific accounting guidance.  A description of the Company's significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company's 2011 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 3, 2012 Annual Meeting of Shareholders.

Recently Issued Accounting Pronouncements

Recently Issued Accounting Pronouncements

In April 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-02, A Creditor's Determination of Whether a Restructuring is a Troubled Debt Restructuring. ASU No. 2011-02 provides additional guidance for determining what constitutes a troubled debt restructuring.  ASU No. 2011-02 is effective for interim and annual periods ending after June 15, 2011.  The adoption of this guidance did not have a material impact on the Company's results of operations, financial position ordisclosures.

In May 2011, FASB issued ASU No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS").  ASU No. 2011-04 is intended to result in convergence between GAAP and IFRS requirements for measurement of and disclosures about fair value.  ASU No. 2011-04 is effective for interim and annual periods beginning after December 15, 2011.  The adoption of this guidance did not have a material impact on the Company's results of operations, financial position ordisclosures.

In June 2011, FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income.  ASU No. 2011-05 requires companies to present the components of net income and other comprehensive income either as one continuous statement or as two consecutive statements.  It eliminates the option to present components of other comprehensive income as part of the statement of changes in shareholders' equity.  ASU No. 2011-05 does not change the items which must be reported in other comprehensive income, how such items are measured or when they must be reclassified to net income. ASU No. 2011-05 is effective for interim and annual periods beginning after December 15, 2011.  Because ASU No. 2011-05 impacts presentation only, it has no impact on the Company's results of operations or financial position.

In December 2011, FASB issued ASU No. 2011-12, Comprehensive Income (Topic 220):Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.  ASU No. 2011-12defers the effective date of the requirement to present separate line items on the income statement for reclassification adjustments of items out of accumulated other comprehensive income into net income.  This deferral is temporary until  FASB reconsiders the operational concerns and needs of financial statement users.  FASB has not yet established a timetable for its reconsideration.  Entities are still required to present reclassification adjustments within other comprehensive income either on the face of the statement that reports other comprehensive income or in the notes to the financial statements.  The requirement to present comprehensive income in either a single continuous statement or two consecutive condensed statements remains for both annual and interim reporting.  Because ASU No. 2011-12 impacts presentation only, it will have no impact on the Company's results of operations or financial position.

Other accounting standards that have been issued or proposed by FASB or other standards-setting bodies are not expected to have a material impact on the Company's results ofoperations, financial position or disclosures.

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Derivative Instruments and Hedging Activities

9 Months Ended

Sep. 30, 2012

Derivative Instruments and Hedging Activities [Abstract]

Derivative Instruments and Hedging Activities

 (7) Derivative Instruments and Hedging Activities

Accounting Policy for Derivative Instruments and Hedging Activities

The disclosure requirements for derivatives and hedging activities have the intent to provide users of financial statements with an enhanced understanding of: (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for and (c) how derivative instruments and related hedged items affect an entity's financial position, financial performance, and cash flows.  The disclosure requirements include qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about the fair value of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative instruments.

The Company records all derivatives on the balance sheet at fair value.  The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge.  The Company may enter into derivative contracts that are intended to economically hedge certain of its risks, even though hedge accounting does not apply or the Company elects not to apply hedge accounting.

Risk Management Objective of Using Derivatives

The Company has an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility.  By using derivative instruments, the Company is exposed to credit and market risk.  If the counterparty fails to perform, credit risk is equal to the extent of the fair value gain in the derivative.  The Company minimizes the credit risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed periodically by the Company.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

Fair Values of Derivative Instruments on the Balance Sheet

The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

Cash Flow Hedges of Interest Rate Risk

The Company's objectives in using interest rate derivatives are to add stability to interest income and expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps and floors as part of its interest rate risk management strategy.  For hedges of the Company's variable-rate loan assets, interest rate swaps designated as cash flow hedges involve the receipt of fixed-rate amounts from a counterparty in exchange for the Company making variable-rate payments over the life of the agreements without exchange of the underlying notional amount.  For hedges of the Company's variable-rate loan assets, the interest rate floors designated as a cash flow hedge involves the receipt of variable-rate amounts from a counterparty if interest rates fall below the strike rate on the contract in exchange for an up front premium.  The Company had an interest rate swap contract that expired in June 2011.  The Company did not have any interest rate derivatives outstanding as of September 30, 2012 and December 31, 2011.

The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in "Accumulated Other Comprehensive Income" and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings.  Such derivatives were used to hedge the variable cash inflows associated with existing pools of prime-based loan assets during 2011.  The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings.  The Company's derivatives did not have any hedge ineffectiveness recognized in earnings during the nine months ended September 30, 2012 and 2011.

Effect of Derivative Instruments on the Income Statement

The table below presents the effect of the Company's derivative financial instruments on the statement of earnings for the nine months ended September 30, 2012 and 2011.

(Dollars in thousands)
		Amount of Gain			Location of Gain		Amount of Gain
		(Loss) Recognized in			(Loss) Reclassified		(Loss) Reclassified
		Accumulated OCI on			from Accumulated		from Accumulated
		Derivatives			OCI into Income		OCI into Income
		Nine months ended					Nine months ended
		September 30,					September 30,
		2012		2011			2012	2011
Interest rate derivative contracts	$	-	$	(20)	Interest income	$	-	$	628

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TARP Repurchase

9 Months Ended

Sep. 30, 2012

TARP Repurchase [Abstract]

TARP Repurchase

(8) TARP Repurchase

On July 3, 2012, the Company purchased 12,530 shares of the Company's 25,054 outstanding shares of preferred stock from the UST, which was issued to UST in connection with the Company's participation in the CPP under the TARP in 2008.  The shares were purchased for $933.36 per share, for a total purchase price of $11,778,575.90, including $83,575.10 accrued and unpaid dividends on the preferred stock.  The Company retired the 12,530 shares purchased.  The $834,999.20 difference between the $12,530,000 face value of the preferred stock retired and the $11,695,000.80 purchase price of the preferred stock retired was credited to retained earnings.

On August 8, 2012, the Company completed its repurchase of the warrant (the "Warrant") to purchase 357,234 shares of the Company's common stock that was issued to the UST on December 23, 2008 as part of the CPP under TARP.  The Company repurchased the Warrant for a total price of $425,000.

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Derivative Instruments and Hedging Activities (Policies)

9 Months Ended

Sep. 30, 2012

Derivative Instruments and Hedging Activities [Abstract]

Accounting Policy for Derivative Instruments and Hedging Activities

Accounting Policy for Derivative Instruments and Hedging Activities

The disclosure requirements for derivatives and hedging activities have the intent to provide users of financial statements with an enhanced understanding of: (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for and (c) how derivative instruments and related hedged items affect an entity's financial position, financial performance, and cash flows.  The disclosure requirements include qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about the fair value of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative instruments.

The Company records all derivatives on the balance sheet at fair value.  The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge.  The Company may enter into derivative contracts that are intended to economically hedge certain of its risks, even though hedge accounting does not apply or the Company elects not to apply hedge accounting.

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Fair Value, Estimated fair value (Details) (USD $) In Thousands, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011
Carrying Amount [Member]
Assets:
Cash and cash equivalents	$ 55,904	$ 29,236
Investment securities available for sale	281,785	321,388
Other investments	5,599	5,712
Mortgage loans held for sale	5,984	5,146
Loans, net	604,690	653,893
Cash surrender value of life insurance	13,142	12,835
Liabilities:
Deposits and demand notes payable	768,470	827,111
Securities sold under agreements to repurchase	43,136	39,600
FHLB borrowings	70,000	70,000
Junior subordinated debentures	20,619	20,619
Estimated Fair Value [Member]
Assets:
Cash and cash equivalents	55,904	29,236
Investment securities available for sale	281,785	321,388
Other investments	5,599	5,712
Mortgage loans held for sale	5,984	5,146
Loans, net	604,690	648,640
Cash surrender value of life insurance	13,142	12,835
Liabilities:
Deposits and demand notes payable	767,543	826,810
Securities sold under agreements to repurchase	43,136	39,600
FHLB borrowings	75,938	75,046
Junior subordinated debentures	20,619	20,619
Level 1 Valuation [Member] | Estimated Fair Value [Member]
Assets:
Cash and cash equivalents	55,904
Investment securities available for sale	1,455
Other investments	0
Mortgage loans held for sale	0
Loans, net	0
Cash surrender value of life insurance	0
Liabilities:
Deposits and demand notes payable	0
Securities sold under agreements to repurchase	0
FHLB borrowings	0
Junior subordinated debentures	0
Level 2 Valuation [Member] | Estimated Fair Value [Member]
Assets:
Cash and cash equivalents	0
Investment securities available for sale	279,080
Other investments	0
Mortgage loans held for sale	0
Loans, net	0
Cash surrender value of life insurance	13,142
Liabilities:
Deposits and demand notes payable	767,543
Securities sold under agreements to repurchase	43,136
FHLB borrowings	75,938
Junior subordinated debentures	20,619
Level 3 Valuation [Member] | Estimated Fair Value [Member]
Assets:
Cash and cash equivalents	0
Investment securities available for sale	1,250
Other investments	5,599
Mortgage loans held for sale	5,984
Loans, net	604,690
Cash surrender value of life insurance	0
Liabilities:
Deposits and demand notes payable	0
Securities sold under agreements to repurchase	0
FHLB borrowings	0
Junior subordinated debentures	$ 0

XML

Derivative Instruments and Hedging Activities (Tables)

9 Months Ended

Sep. 30, 2012

Derivative Instruments and Hedging Activities [Abstract]

Effect of derivative financial instruments on statement of earnings

The table below presents the effect of the Company's derivative financial instruments on the statement of earnings for the nine months ended September 30, 2012 and 2011.

(Dollars in thousands)
		Amount of Gain			Location of Gain		Amount of Gain
		(Loss) Recognized in			(Loss) Reclassified		(Loss) Reclassified
		Accumulated OCI on			from Accumulated		from Accumulated
		Derivatives			OCI into Income		OCI into Income
		Nine months ended					Nine months ended
		September 30,					September 30,
		2012		2011			2012	2011
Interest rate derivative contracts	$	-	$	(20)	Interest income	$	-	$	628

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Loans, Allowance for loan losses (Details) (USD $) In Thousands, unless otherwise specified	9 Months Ended	12 Months Ended
	Sep. 30, 2012	Dec. 31, 2011
Allowance for loan losses [Abstract]
Beginning balance	$ 16,604	$ 15,493
Charge-offs	(5,642)	(12,260)
Recoveries	1,177	739
Provision	4,412	12,632
Ending balance	16,551	16,604
Ending balance: individually evaluated for impairment	3,278	2,539
Ending balance: collectively evaluated for impairment	13,273	14,065
Ending balance	16,551	16,604
Loans [Abstract]
Ending balance	625,782	670,497
Ending balance: individually evaluated for impairment	50,648	44,786
Ending balance: collectively evaluated for impairment	575,134	625,711
Real Estate Loans - Construction and Land Development [Member]
Allowance for loan losses [Abstract]
Beginning balance	7,182	5,774
Charge-offs	(3,045)	(7,164)
Recoveries	522	241
Provision	1,733	8,331
Ending balance	6,392	7,182
Ending balance: individually evaluated for impairment	1,527	1,250
Ending balance: collectively evaluated for impairment	4,865	5,932
Ending balance	6,392	7,182
Loans [Abstract]
Ending balance	80,733	93,812
Ending balance: individually evaluated for impairment	19,734	20,280
Ending balance: collectively evaluated for impairment	60,999	73,532
Real Estate Loans - Single-Family Residential [Member]
Allowance for loan losses [Abstract]
Beginning balance	5,357	6,097
Charge-offs	(1,149)	(2,925)
Recoveries	71	201
Provision	817	1,984
Ending balance	5,096	5,357
Ending balance: individually evaluated for impairment	1,637	1,289
Ending balance: collectively evaluated for impairment	3,459	4,068
Ending balance	5,096	5,357
Loans [Abstract]
Ending balance	249,167	267,051
Ending balance: individually evaluated for impairment	23,770	20,661
Ending balance: collectively evaluated for impairment	225,397	246,390
Real estate loans - Commercial [Member]
Allowance for loan losses [Abstract]
Beginning balance	1,731	1,409
Charge-offs	(547)	(1,271)
Recoveries	374	24
Provision	(21)	1,569
Ending balance	1,537	1,731
Ending balance: individually evaluated for impairment	114	0
Ending balance: collectively evaluated for impairment	1,423	1,731
Ending balance	1,537	1,731
Loans [Abstract]
Ending balance	203,603	214,415
Ending balance: individually evaluated for impairment	6,798	3,845
Ending balance: collectively evaluated for impairment	196,805	210,570
Real estate loans - Multifamily and Farmland [Member]
Allowance for loan losses [Abstract]
Beginning balance	13	17
Charge-offs	0	0
Recoveries	0	0
Provision	0	(4)
Ending balance	13	13
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	13	13
Ending balance	13	13
Loans [Abstract]
Ending balance	4,964	4,793
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	4,964	4,793
Commercial (not secured by real estate) [Member]
Allowance for loan losses [Abstract]
Beginning balance	1,029	1,174
Charge-offs	(498)	(314)
Recoveries	95	121
Provision	(18)	48
Ending balance	608	1,029
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	608	1,029
Ending balance	608	1,029
Loans [Abstract]
Ending balance	60,358	60,646
Ending balance: individually evaluated for impairment	346	0
Ending balance: collectively evaluated for impairment	60,012	60,646
Farm loans (not secured by real estate) [Member]
Allowance for loan losses [Abstract]
Beginning balance	0
Charge-offs	0
Recoveries	0
Provision	0
Ending balance	0
Ending balance: individually evaluated for impairment	0
Ending balance: collectively evaluated for impairment	0
Ending balance	0
Loans [Abstract]
Ending balance	12	0
Ending balance: individually evaluated for impairment	0
Ending balance: collectively evaluated for impairment	12
Consumer and All Other (not secured by real estate) [Member]
Allowance for loan losses [Abstract]
Beginning balance	255	430
Charge-offs	(403)	(586)
Recoveries	115	152
Provision	222	259
Ending balance	189	255
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	189	255
Ending balance	189	255
Loans [Abstract]
Ending balance	26,945	29,780
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	26,945	29,780
Unallocated [Member]
Allowance for loan losses [Abstract]
Beginning balance	1,037	592
Charge-offs	0	0
Recoveries	0	0
Provision	1,679	445
Ending balance	2,716	1,037
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	2,716	1,037
Ending balance	2,716	1,037
Loans [Abstract]
Ending balance	0	0
Ending balance: individually evaluated for impairment	0	0
Ending balance: collectively evaluated for impairment	$ 0	$ 0

XML

Consolidated Statements of Comprehensive Income (Unaudited) (USD $) In Thousands, unless otherwise specified	3 Months Ended		9 Months Ended
	Sep. 30, 2012	Sep. 30, 2011	Sep. 30, 2012	Sep. 30, 2011
Consolidated Statements of Comprehensive Income (Unaudited) [Abstract]
Net earnings	$ 1,413	$ 1,392	$ 4,580	$ 3,382
Other comprehensive income:
Unrealized holding gains on securities available for sale	1,427	3,612	5,156	9,653
Reclassification adjustment for gains on securities available for sale included in net earnings	(12)	(1,239)	(1,203)	(2,495)
Unrealized holding losses on derivative financial instruments qualifying as cash flow hedges	0	0	0	(648)
Total other comprehensive income, before income taxes	1,415	2,373	3,953	6,510
Income tax expense related to other comprehensive income:
Unrealized holding gains on securities available for sale	555	1,407	2,008	3,760
Reclassification adjustment for gains on securities available for sale included in net earnings	(4)	(483)	(470)	(972)
Unrealized holding losses on derivative financial instruments qualifying as cash flow hedges	0	0	0	(253)
Total income tax expense related to other comprehensive income	551	924	1,538	2,535
Total other comprehensive income, net of tax	864	1,449	2,415	3,975
Total comprehensive income	$ 2,277	$ 2,841	$ 6,995	$ 7,357

XML

Net Earnings Per Common Share

9 Months Ended

Sep. 30, 2012

Net Earnings Per Common Share [Abstract]

Net Earnings Per Common Share

(4)     Net Earnings Per Common Share

Net earnings per common share is based on the weighted average number of common shares outstanding during the period while the effects of potential common shares outstanding during the period are included in diluted earnings per common share.  The average market price during the year is used to compute equivalent shares.

The reconciliation of the amounts used in the computation of both "basic earnings per common share" and "diluted earnings per common share" for the three and nine months ended September 30, 2012 and 2011 is as follows:

For the three months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,256	5,559,016	$	0.23
Effect of dilutive securities:
Stock options		-	2,570
Diluted earnings per common share	$	1,256	5,561,586	$	0.23

For the nine months ended September 30, 2012
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	3,727	5,549,148	$	0.67
Effect of dilutive securities:
Stock options		-	2,168
Diluted earnings per common share	$	3,727	5,551,316	$	0.67

For the three months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	1,044	5,542,703	$	0.19
Effect of dilutive securities:
Stock options		-	1,922
Diluted earnings per common share	$	1,044	5,544,625	$	0.19

For the nine months ended September 30, 2011
	Net Earnings Available to Common Shareholders (Dollars in thousands)		Common Shares	Per Share Amount
Basic earnings per common share	$	2,337	5,542,126	$	0.42
Effect of dilutive securities:
Stock options		-	1,739
Diluted earnings per common share	$	2,337	5,543,865	$	0.42

XML

Loans, Credit Risk (Details) (USD $) In Thousands, unless otherwise specified	Sep. 30, 2012	Dec. 31, 2011
Financing Receivable, Recorded Investment [Line Items]
Total Loans	$ 625,782	$ 670,497
Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	80,733	93,812
Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	249,167	267,051
Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	203,603	214,415
Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	4,964	4,793
Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	60,358	60,646
Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	12	0
Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	10,303	10,490
All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	16,642	19,290
Total real estate loans [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	538,467	580,071
1- Excellent Quality [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	25,525	27,730
1- Excellent Quality [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	192	197
1- Excellent Quality [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	23,029	25,474
1- Excellent Quality [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
1- Excellent Quality [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
1- Excellent Quality [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	954	715
1- Excellent Quality [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
1- Excellent Quality [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	1,350	1,344
1- Excellent Quality [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
2- High Quality [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	104,442	111,201
2- High Quality [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	5,132	5,183
2- High Quality [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	58,651	64,817
2- High Quality [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	24,297	25,506
2- High Quality [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	36	50
2- High Quality [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	9,737	8,801
2- High Quality [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
2- High Quality [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	4,213	4,070
2- High Quality [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	2,376	2,774
3- Good Quality [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	286,591	325,001
3- Good Quality [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	23,443	27,675
3- Good Quality [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	88,980	100,388
3- Good Quality [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	116,735	136,137
3- Good Quality [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	2,647	3,448
3- Good Quality [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	36,287	36,585
3- Good Quality [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	12
3- Good Quality [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	4,226	4,259
3- Good Quality [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	14,261	16,509
4- Management Attention [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	136,686	132,379
4- Management Attention [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	24,565	28,138
4- Management Attention [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	48,969	50,253
4- Management Attention [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	49,292	40,312
4- Management Attention [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	1,364	358
4- Management Attention [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	12,103	12,882
4- Management Attention [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
4- Management Attention [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	388	429
4- Management Attention [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	5	7
5- Watch [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	29,192	31,924
5- Watch [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	8,177	15,923
5- Watch [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	11,249	11,767
5- Watch [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	8,609	2,795
5- Watch [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	717	728
5- Watch [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	351	622
5- Watch [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
5- Watch [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	89	89
5- Watch [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
6- Substandard [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	43,346	42,117
6- Substandard [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	19,224	16,696
6- Substandard [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	18,289	14,352
6- Substandard [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	4,670	9,665
6- Substandard [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	200	209
6- Substandard [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	926	1,041
6- Substandard [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
6- Substandard [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	37	154
6- Substandard [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
7- Low Substandard [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
7- Low Substandard [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
8- Doubtful [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
8- Doubtful [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	145
9- Loss [Member] | Real Estate Loans - Construction and Land Development [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member] | Real Estate Loans - Single-Family Residential [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member] | Real Estate Loans - Commercial [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member] | Real estate loans - Multifamily and Farmland [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member] | Commercial (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	0
9- Loss [Member] | Farm loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0
9- Loss [Member] | Consumer (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	0	145
9- Loss [Member] | All other loans (not secured by real estate) [Member]
Financing Receivable, Recorded Investment [Line Items]
Total Loans	$ 0	$ 0

XML

Fair Value (Tables)

9 Months Ended

Sep. 30, 2012

Fair Value [Abstract]

Fair value of assets measured on recurring and nonrecurring basis

GAAP establishes a framework for measuring fair value and expands disclosures about fair value measurements. There is a three-level fair value hierarchy for fair value measurements.  Level 1 inputs are quoted prices in active markets for identical assets or liabilities that a company has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.   The following tables present the balance of securities available for sale and mortgage loans held for sale, which are measured at fair value on a recurring basis by level within the fair value hierarchy as of September 30, 2012 and December 31, 2011.

(Dollars in thousands)
	September 30, 2012
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	160,086	-	160,086	-
U.S. Government
sponsored enterprises	$	1,294	-	1,294	-
State and political subdivisions	$	116,149	-	116,149	-
Corporate bonds	$	1,551	-	1,551	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,455	1,455	-	-
Mortgage loans held for sale	$	5,984	-	-	5,984

(Dollars in thousands)
	December 31, 2011
	Fair Value Measurements		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation
Mortgage-backed securities	$	213,693	-	208,349	5,344
U.S. Government
sponsored enterprises	$	7,694	-	7,694	-
State and political subdivisions	$	97,097	-	97,097	-
Corporate bonds	$	543	-	543	-
Trust preferred securities	$	1,250	-	-	1,250
Equity securities	$	1,111	1,111	-	-
Mortgage loans held for sale	$	5,146	-	-	5,146

The Company's September 30, 2012 and December 31, 2011 fair value measurement for impaired loans and other real estate on a non-recurring basis is presented below:

(Dollars in thousands)
	Fair Value Measurements September 30, 2012		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Nine Months Ended September 30, 2012
Impaired loans	$	57,495	-	-	57,495	(5,408	)
Other real estate	$	6,595	-	-	6,595	(710	)

(Dollars in thousands)
	Fair Value Measurements December 31, 2011		Level 1 Valuation	Level 2 Valuation	Level 3 Valuation	Total Gains/(Losses) for the Year Ended December 31, 2011
Impaired loans	$	49,901	-	431	49,470	(11,864	)
Other real estate	$	7,576	-	-	7,576	(1,322	)

Analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs

The following is an analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs, for the nine months ended September 30, 2012.  Transfers out of Level 3 during the nine months ended September 30, 2012 are attributable to one available for sale security reported in Level 3 at December 31, 2011 because market pricing was unavailable from the Bank's third party bond accounting provider at that time.  This security was reported in Level 2 at September 30, 2012, as the market valuation was provided by the Bank's third party bond accounting provider.

(Dollars in thousands)
	Investment Securities Available for Sale
	Level 3 Valuation
Balance, beginning of period	$	6,594
Change in book value		-
Change in gain/(loss) realized and unrealized		-
Purchases/(sales)		-
Transfers in and/or (out) of Level 3		(5,344	)
Balance, end of period	$	1,250
Change in unrealized gain/(loss) for assets still held in Level 3	$	-

Carrying amount and estimated fair value of financial instruments

The carrying amount and estimated fair value of the Company's financial instruments at September 30, 2012 and December 31, 2011 are as follows:

(Dollars in thousands)
			Fair Value Measurements at September 30, 2012
	Carrying Amount		Level 1	Level 2	Level 3	Total
Assets:
Cash and cash equivalents	$	55,904	55,904	-	-	55,904
Investment securities available for sale		281,785	1,455	279,080	1,250	281,785
Other investments		5,599	-	-	5,599	5,599
Mortgage loans held for sale		5,984	-	-	5,984	5,984
Loans, net		609,231	-	-	604,690	604,690
Cash surrender value of life insurance		13,142	-	13,142	-	13,142
Liabilities:
Deposits	$	768,470	-	767,543	-	767,543
Securities sold under agreements
to repurchase		43,136	-	43,136	-	43,136
FHLB borrowings		70,000	-	75,938	-	75,938
Junior subordinated debentures		20,619	-	20,619	-	20,619

(Dollars in thousands)
	December 31, 2011
	Carrying Amount		Estimated Fair Value
Assets:
Cash and cash equivalents	$	29,236	29,236
Investment securities available for sale		321,388	321,388
Other investments		5,712	5,712
Mortgage loans held for sale		5,146	5,146
Loans, net		653,893	648,640
Cash surrender value of life insurance		12,835	12,835
Liabilities:
Deposits and demand notes payable	$	827,111	826,810
Securities sold under agreements
to repurchase		39,600	39,600
FHLB borrowings		70,000	75,046
Junior subordinated debentures		20,619	20,619