Edgar Filing: Oak Ridge Financial Services, Inc.

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

Form 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 June 30, 2010

Commission File Number: 000-52640

OAK RIDGE FINANCIAL SERVICES, INC

(Exact name of registrant as specified in its charter)

North Carolina

20-8550086

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

Post Office Box 2

2211 Oak Ridge Road

Oak Ridge, North Carolina 27310

(Address of principal executive offices)

(336) 644-9944

(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 ¨ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

The number of shares outstanding of each of the registrant’s classes of common stock, as of August 10, 2010, was as follows:


Class		Number of Shares
Common Stock, no par value		1,791,474

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This form contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements represent expectations and beliefs of Oak Ridge Financial Services, Inc. (hereinafter referred to as the “Company”) including but not limited to the Company’s and its subsidiary’s operations, performance, financial condition, growth or strategies. These forward-looking statements are identified by words such as “expects”, “anticipates”, “should”, “estimates”, “believes” and variations of these words and other similar statements. For this purpose, any statements contained in this form that are not statements of historical fact may be deemed to be forward-looking statements. 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. These forward-looking statements involve estimates, assumptions, risks and uncertainties that could cause actual results to differ materially from current projections depending on a variety of important factors, including without limitation:

•

revenues are lower than expected;

•

credit quality deterioration which could cause an increase in the provision for credit losses;

•

competitive pressure among depository institutions increases significantly;

•

changes in consumer spending, borrowings and savings habits;

•

The Company’s ability to successfully integrate acquired entities or to achieve expected synergies and operating efficiencies within expected time-frames or at all;

•

technological changes and security and operations risks associated with the use of technology;

•

the cost of additional capital is more than expected;

•

a change in the interest rate environment reduces interest margins;

•

asset/liability repricing risks, ineffective hedging and liquidity risks;

•

counterparty risk;

•

general economic conditions, particularly those affecting real estate values, either nationally or in the market area in which we do or anticipate doing business, are less favorable than expected;

•

the effects of the Federal Deposit Insurance Corporation deposit insurance premiums and assessments;

•

the effects of and changes in monetary and fiscal policies and laws, including the interest rate policies of the Federal Reserve Board;

•

volatility in the credit or equity markets and its effect on the general economy;

•

demand for the products or services of the Company and its subsidiaries, as well as their ability to attract and retain qualified people;

•

We are likely to be impacted by the extensive reforms enacted in the Dodd-Frank Wall Street Reform and Consumer Protection Act, which became law on July 21, 2010. As much of the Act will require the adoption of implementing regulations by a number of different regulatory bodies, the precise nature, extent and timing of many of these reforms and the impact on us is still uncertain;

•

the costs and effects of legal, accounting and regulatory developments and compliance; and

•

regulatory approvals for acquisitions cannot be obtained on the terms expected or on the anticipated schedule.

The Company undertakes no obligation to update any forward-looking statement, whether written or oral, that may be made from time to time, by or on behalf of the Company.

Oak Ridge Financial Services, Inc.

Table of Contents


Item 1. Financial Statements

Consolidated Balance Sheets at June 30, 2010 (unaudited) and December 31, 2009		4

Consolidated Statements of Operations for the three and six months ended June 30, 2010 and 2009 (unaudited)		5

Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income for the six months ended June 30, 2010 and 2009 (unaudited)		6

Consolidated Statements of Cash Flows for the six months ended June 30, 2010 and 2009 (unaudited)		8

Notes to Unaudited Consolidated Financial Statements		10

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		19

Item 3. Quantitative and Qualitative Disclosures About Market Risk		29

Item 4. Controls and Procedures		29

Part II. Other Information

Item 6. Exhibits		30

Signature Page		32

Consolidated Balance Sheets

June 30, 2010 (Unaudited) and December 31, 2009 (Audited)

(Dollars in thousands, except per share data)


	2010		2009
Assets
Cash and due from banks	$	4,784	$	4,140
Interest-bearing deposits with banks		20,716		6,931

Total cash and cash equivalents		25,500		11,071
Securities available-for-sale		37,434		47,184
Securities held-to-maturity (fair values of $8,768 in 2010 and $9,700 in 2009)		9,091		10,355
Federal Home Loan Bank Stock, at cost		1,342		1,342
Loans, net of allowance for loan losses of $3,814 in 2010 and $3,667 in 2009		249,508		247,633
Property and equipment, net		10,645		10,793
Foreclosed assets		572		1,288
Accrued interest receivable		1,404		1,387
Bank owned life insurance		4,711		4,627
Other assets		2,495		2,368

Total assets	$	342,702	$	338,048


Liabilities and Stockholders’ Equity

*Liabilities*
Deposits:
Noninterest-bearing	$	25,363	$	20,520
Interest-bearing		269,968		271,164

Total deposits		295,331		291,684
Short-term debt		—		—
Long-term debt		9,000		9,000
Junior subordinated notes related to trust preferred securities		8,248		8,248
Accrued interest payable		279		295
Other liabilities		1,851		1,229

Total liabilities		314,709		310,456


Commitments and contingencies		—		—

*Stockholders’ equity*
Preferred stock, Series A, no par value, $1,000 per share liquidation preference		6,683		6,566
Common stock, no par value; 50,000,000 shares authorized; 1,791,474 issued and outstanding in 2010 and 2009		15,831		15,831
Warrants		1,361		1,361
Retained earnings		2,947		2,602
Accumulated other comprehensive income		1,171		1,232

Total stockholders’ equity		27,993		27,592

Total liabilities and stockholders’ equity	$	342,702	$	338,048

See Notes to Consolidated Financial Statements

Consolidated Statements of Operations

For the three and six months ended June 30, 2010 and 2009 (Unaudited)

(Dollars in thousands except per share data)


	Three months ended June 30,						Six months ended June 30,
	2010			2009			2010			2009
*Interest and dividend income*
Loans and fees on loans	$	3,687		$	3,832		$	7,425		$	7,622
Federal funds sold		—			—			—			1
Interest on deposits in banks		14			15			20			28
Federal Home Loan Bank stock dividends		1			—			2			—
Taxable investment securities		746			1,198			1,634			2,089

Total interest and dividend income		4,448			5,045			9,081			9,740


*Interest expense*
Deposits		1,161			1,898			2,423			3,961
Short-term and long-term debt		48			134			95			300

Total interest expense		1,209			2,032			2,518			4,261

Net interest income		3,239			3,013			6,563			5,479
*Provision for loan losses*		784			303			1,137			669

Net interest income after provision for loan losses		2,455			2,710			5,426			4,810
*Noninterest income*
Service charges on deposit accounts		194			205			394			408
Gain on sale of securities		—			—			386			—
Mortgage loan origination fees		123			145			184			301
Investment and insurance commissions		278			162			470			336
Fee income from accounts receivable financing		236			181			426			355
Debit card interchange income		122			84			226			155
Income earned on bank owned life insurance		41			65			84			97
Other service charges and fees		22			23			41			42

Total noninterest income		1,016			865			2,211			1,694

*Noninterest expense*
Salaries		1,320			1,256			2,718			2,484
Employee benefits		463			142			616			300
Occupancy expense		224			178			460			365
Equipment expense		225			174			419			344
Data and item processing		186			155			341			300
Professional and advertising		303			324			737			614
Stationary and supplies		68			53			129			108
Net loss on sale of foreclosed and repossessed assets		52			182			45			302
Telecommunications expense		60			73			117			139
FDIC assessment		138			219			269			292
Accounts receivable financing expense		84			56			143			109
Other-than-temporary impairment loss		21			105			21			105
Other expense		338			285			626			515

Total noninterest expense		3,482			3,202			6,641			5,977

Income (loss) before income taxes		(11	)		373			996			527
*Income tax expense (benefit)*		(26	)		131			342			185

*Net income*	$	15		$	242		$	654		$	342

Preferred stock dividends		(96	)		(97	)		(192	)		(161	)
Accretion of discount		(86	)		(67	)		(172	)		(111	)

*Income (loss) available to common stockholders*	$	(167	)	$	78		$	290		$	70

*Basic earnings (loss) per common share*	$	(0.09	)	$	0.04		$	0.16		$	0.04

*Diluted earnings (loss) per common share*	$	(0.09	)	$	0.04		$	0.16		$	0.04

*Basic weighted average shares outstanding*		1,791,474			1,791,474			1,791,474			1,791,474

*Diluted weighted average shares outstanding*		1,791,474			1,791,474			1,791,474			1,791,474

See Notes to Consolidated Financial Statements

Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income

Six months ended June 30, 2009 (Unaudited)

(In thousands except shares of common stock)


	Preferred stock, Series A			Common Stock			Common stock warrant			Retained earnings			Accumulated other comprehensive income			Comprehensive income		Total
	Preferred stock, Series A			Number Amount			Common stock warrant			Retained earnings			Accumulated other comprehensive income			Comprehensive income		Total
Balance December 31, 2008	$	—		1,791,474	$	15,831	$	—		$	2,470		$	(106	)			$	18,195
Net income											342					$	342		342
Net change in unrealized gain on investment securities available-for-sale, net of tax expense of $495														916			916		916

Total comprehensive income																$	1,258

Issuance of preferred stock in connection with Capital Purchase Program, net of discount on preferred stock		6,888																	6,888
Issuance of common stock warrant in connection with Capital Purchase Program								812											812
Costs associated with issuance of preferred stock and common warrants		(9	)					(1	)										(10	)
Preferred stock dividends											(112	)							(112	)
Preferred stock accretion		111									(111	)							—

Balance June 30, 2009	$	6,990		1,791,474	$	15,831	$	811		$	2,589		$	810				$	27,993

See Notes to Consolidated Financial Statements

Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income, continued

Six months ended June 30, 2010 (Unaudited)

(In thousands except shares of common stock)


	Preferred stock, Series A		Common Stock			Common stock warrant		Retained earnings			Accumulated other comprehensive income			Comprehensive income			Total
	Preferred stock, Series A		Number Amount			Common stock warrant		Retained earnings			Accumulated other comprehensive income			Comprehensive income			Total
Balance December 31, 2009	$	6,566	1,791,474	$	15,831	$	1,361	$	2,602		$	1,232					$	27,592
Net income									654					$	654			654
Net change in unrealized gain on investment securities available-for-sale, net of tax expense of $101												193			193			193
Reclassification adjustment for investment securities included in net income, net of tax expense of $132												(254	)		(254	)		(254	)

Total comprehensive income														$	593

Preferred stock dividends									(192	)								(192	)
Preferred stock accretion		117							(117	)								—

Balance June 30, 2010	$	6,683	1,791,474	$	15,831	$	1,361	$	2,947		$	1,171					$	28,146

See Notes to Consolidated Financial Statements

Consolidated Statements of Cash Flows

Six months ended June 30, 2010 and 2009 (Unaudited)

(In thousands)


	2010			2009
*Cash flows from operating activities*
Net income	$	654		$	342
Adjustments to reconcile net income to net cash provided by operations:
Depreciation		441			358
Provision for loan losses		1,137			669
(Gain) loss on sale of securities		(386	)		—
Other-than-temporary impairment loss		21			105
Income earned on bank owned life insurance		(84	)		(97	)
(Gain) loss on sale of foreclosed assets		45			7
Deferred income tax (benefit) expense		(140	)		—
Income taxes payable		446			(270	)
Net (accretion) amortization of discounts and premiums on securities		(256	)		(421	)
Changes in assets and liabilities:
Accrued income		(17	)		(170	)
Other assets		(127	)		194
Accrued interest payable		(16	)		(41	)
Other liabilities		409			657

Net cash provided by operating activities		2,127			1,333


*Cash flows from investing activities*
Activity in available-for-sale securities:
Purchases		—			(23,980	)
Sales		4,719			—
Maturities and repayments		5,538			6,176
Activity in held-to-maturity securities:
Maturities and repayments		1,278			1,582
Redemptions (purchases) of Federal Home Loan Bank stock		—			210
Net increase in loans		(3,132	)		(1,559	)
Purchases of property and equipment		(293	)		(2,358	)
Proceeds from sale of property and equipment		29			—
Proceeds from sale of foreclosed assets		708			11

Net cash provided by (used in) investing activities		8,847			(19,918	)


*Cash flows from financing activities*
Net increase in deposits		3,647			27,838
Repayment of borrowings		—			(7,000	)
Net proceeds from issuance of preferred stock and warrant to purchase common stock		—			7,700
Dividends paid on preferred stock		(192	)		(112	)

Net cash provided by financing activities		3,455			28,426

Net increase in cash and cash equivalents		14,429			9,841
*Cash and cash equivalents, beginning*		11,071			9,584

*Cash and cash equivalents, ending*	$	25,500		$	19,425

See Notes to Consolidated Financial Statements

Consolidated Statements of Cash Flows, continued

Six months ended June 30, 2010 and 2009 (Unaudited)

(In thousands)


	2010		2009
Supplemental disclosure of cash flow information

*Cash paid for:*
Interest	$	2,534	$	4,302

Taxes	$	55	$	99


*Non-cash investing and financing activities*
Foreclosed assets acquired in settlement of loans	$	82	$	18

See Notes to Consolidated Financial Statements

Notes to Consolidated Financial Statements

Note 1. Organization and Summary of Significant Accounting Policies

Organization

Oak Ridge Financial Services, Inc. (referred to as the “Company,” “we,” “our” or “us”) was incorporated under the laws of the State of North Carolina on April 20, 2007, at the direction of the Board of Directors of the Bank of Oak Ridge (the “Bank”), for the purpose of serving as the bank holding company for the Bank and became the holding company for the Bank on April 20, 2007. To become the Bank’s holding company, we received approval of the Federal Reserve Board as well as the Bank’s shareholders. Upon receiving such approval, each share of $5.00 par value common stock of the Bank was exchanged on a one-for-one basis for the no par value common stock of the Company.

The Bank was incorporated on April 6, 2000 as a North Carolina chartered commercial bank and opened for business on April 10, 2000. Including its main office, the Bank operates five (5) full service branch offices in Oak Ridge, Summerfield, and Greensboro, North Carolina.

The Company operates for the primary purpose of serving as the holding company for the Bank. Our headquarters are located at 2211 Oak Ridge Road, Oak Ridge, North Carolina 27310.

The Bank operates for the primary purpose of serving the banking needs of individuals, and small to medium-sized businesses in its market area. The Bank offers a range of banking services including checking and savings accounts, commercial, consumer and personal loans, mortgage services and other associated financial services.

The Company formed Oak Ridge Statutory Trust I (the “Trust”) during 2007 to facilitate the issuance of trust preferred securities. The Trust is a statutory business trust formed under the laws of the state of Connecticut, of which all common securities are owned by the Company. Under the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), Topic 810, Consolidation, Oak Ridge Financial Statutory Trust I is not included in the Company’s consolidated financial statements. The Company’s equity interests for junior subordinated debentures issued by the Company to the Trust are included in other assets.

The accounting and reporting policies of the Company follow generally accepted accounting principles and general practices within the financial services industry. In management’s opinion, the financial information, which is unaudited, reflects all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the financial information as of and for the three- and six-month periods ended June 30, 2010, in conformity with accounting principles generally accepted in the United States of America (“GAAP”).

The preparation of financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities at the date of the financial statements, as well as the amounts of income and expense during the reporting period. Actual results could differ from those estimates. Operating results for the three- and six-month periods ended June 30, 2010 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2010.

The balance sheet as of December 31, 2009 has been derived from audited financial statements. The unaudited financial statements of the Company have been prepared in accordance with instructions from Form 10-Q. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting solely of normal recurring adjustments) considered necessary for a fair presentation have been included.

The organization and business of the Company, accounting policies followed by the Company and other relevant information are contained in the notes to the financial statements filed as part of the Company’s Annual Report on Form 10-K for the year ended December 31, 2009 (the “Annual Report”). This quarterly report should be read in conjunction with the Annual Report.

Certain reclassifications have been made to the prior period’s financial statements to place them on a comparable basis with the current year. Net income and stockholders’ equity previously reported were not affected by these reclassifications.

Basis of Presentation

The accompanying consolidated financial statements include the accounts and transactions of the Company and the Bank, its wholly owned subsidiary. All significant intercompany transactions and balances have been eliminated in consolidation.

Note 1. Organization and Summary of Significant Accounting Policies, continued

Critical Accounting Policies

The Company’s financial statements are prepared in accordance with GAAP. The notes to the audited financial statements included in the Annual Report contain a summary of its significant accounting policies. Management believes the Company’s policies with respect to the methodology for the determination of the allowance for loan losses, and asset impairment judgments, such as the recoverability of intangible assets, involve a higher degree of complexity and require management to make difficult and subjective judgments that often require assumptions or estimates about highly uncertain matters. Accordingly, the Company considers the policies related to those areas as critical.

The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as impaired. For such loans, an allowance is established when the collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-impaired loans and is based on the historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential loans for impairment disclosures.

Subsequent Events

In preparing these financial statements, the Company has evaluated events and transactions for potential recognition or disclosure through the date the financial statements were issued.

Note 2. Earnings Per Share

Basic Earnings per Share

Basic earnings per share is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding during the period, after giving retroactive effect to stock splits and dividends.

Diluted Earnings per Share

The computation of diluted earnings per share is similar to the computation of basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if dilutive potential common shares had been issued. The numerator is adjusted for any changes in income or loss that would result from the assumed conversion of those potential common shares.

Stock options outstanding of 347,483 shares and the warrant issued to the U.S. Treasury Department (“Treasury”) covering 163,850 shares were not included in the computation of diluted earnings per share because their exercise price exceeded the average market price of the Company’s common stock for the respective periods ending June 30, 2010 and 2009. For the three and six months ended June 30, 2010, the inclusion of the common stock equivalents in the computation would have been anti-dilutive.

Note 3. Securities

The amortized cost and fair value of securities, with gross unrealized gains and losses, follows (dollars in thousands):


	June 30, 2010
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
*Available-for-sale*
Government-sponsored enterprise securities	$	2,037	$	148	$	—		$	2,185
FNMA mortgage-backed securities		8,276		586		(3	)		8,859
Private label mortgage-backed securities		15,732		970		—			16,702
SBIC or SBA debentures		8,984		204		—			9,188
Other domestic debt securities		500		—		—			500

Total securities available-for-sale	$	35,529	$	1,908	$	(3	)	$	37,434


*Held-to-maturity*
Private label mortgage-backed securities		9,091		94		(417	)		8,768

Total securities available-for-sale	$	9,091	$	94	$	(417	)	$	8,768


	December 31, 2009
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
*Available-for-sale*
Government-sponsored enterprise securities	$	2,039	$	110	$	—		$	2,149
FNMA mortgage-backed securities		10,069		635		—			10,704
Private label mortgage-backed securities		22,956		1,104		—			24,059
SBIC or SBA debentures		9,616		156		—			9,772
Other domestic debt securities		500		—		—			500

Total securities available-for-sale	$	45,179	$	2,005	$	—		$	47,184


*Held-to-maturity*
Private label mortgage-backed securities		10,355		15		(670	)		9,700

Total securities available-for-sale	$	10,355	$	15	$	(670	)	$	9,700

Subinvestment grade available-for-sale and held-to-maturity private label mortgage-backed securities are analyzed on a quarterly basis for impairment by utilizing an independent third party that performs an analysis of the estimated principal the Bank is expected to collect on these securities. The result of this analysis determines whether the Bank records an impairment loss on these securities. As a result of this analysis, the Bank recorded a $21,000 impairment charge in the three-month period ended June 30, 2010. During the same period in 2009, the Bank recorded an impairment loss of $105,000 on one private label security.

The Bank had approximately $1.3 million at June 30, 2010 and December 31, 2009, of investments in stock of the FHLB, which is carried at cost. On July 29, 2010, FHLB announced that it would pay a dividend for the second quarter of 2010 of 0.44%. The FHLB also announced that it would repurchase activity-based excess capital stock on August 17, 2010 from shareholders. The amount of the activity-based excess stock to be repurchased from any shareholder will be based on the shareholder’s total capital stock as of August 9, 2010. Management believes that its investment in FHLB stock was not other-than-temporarily impaired as of June 30, 2010 or December 31, 2009. However, there can be no assurance that the impact of recent or future legislation on the FHLB will not also cause a decrease in the value of the FHLB stock held by the Company. Investment securities with amortized costs of $5.0 million and $6.1 million at June 30, 2010 and December 31, 2009, respectively, were pledged as collateral on public deposits or for other purposes as required or permitted by law.

Gross realized gains on the sale of securities for the six months ended June 30, 2010 were $386,000. There were no gross realized gains or losses on sale of securities for the six months ended June 30, 2009.

Note 3. Securities, continued

The following tables detail unrealized losses and related fair values in the Company’s held-to-maturity investment securities portfolios at June 30, 2010 and December 31, 2009. There were no unrealized losses in the Company’s available-for-sale portfolio at June 30, 2010 and December 31, 2009. This information is aggregated by the length of time that individual securities have been in a continuous unrealized loss position as of June 30, 2010 and December 31, 2009 (dollars in thousands).


	Less Than 12 Months					12 Months or Greater					Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
June 30, 2010
Available-for-sale
FNMA mortgage-backed security		2,012		(3	)		—		—			2,012		(3	)
Held-to-maturity
Private label mortgage-backed securities		—		—			6,117		(417	)		6,117		(417	)

Total temporarily impaired securities	$	2,012	$	(3	)	$	6,117	$	(417	)	$	8,129	$	(420	)

December 31, 2009
Held-to-maturity
Private label mortgage-backed securities		2,938		(142	)		5,784		(528	)		8,722		(670	)

Total temporarily impaired securities	$	2,938	$	(142	)	$	5,784	$	(528	)	$	8,722	$	(670	)

As of June 30, 2010, management does not have the intent to sell any of the securities classified as available-for sale or held-to-maturity in the table above and believes it is more likely than not that the Company will not have to sell any such securities before a recovery of the cost. The unrealized losses are largely due to increases in the market interest rates over the yields available at the time the underlying securities were purchased. The fair value is expected to recover as the bonds approach their maturity date or re-pricing date or if market yields for such securities decline. Management determined one private label mortgage-backed security to be impaired in the fourth quarter of 2009. Accordingly, a $129,000 realized loss was recognized as an impairment loss in 2009. A review of the Bank’s private label mortgage-backed securities as of June 30, 2010 followed by impairment testing resulted in an impairment charge of $21,000 as of and for the three months ended June 30, 2010 on another private label mortgage-backed security. Other than the two securities identified as impaired, management does not believe any of the unrealized losses above are due to credit quality.

Maturities of mortgage-backed securities are presented based on contractual amounts. Actual maturities will vary as the underlying loans prepay. The scheduled maturities of securities at June 30, 2010 were as follows (dollars in thousands):


	Available-for-Sale				Held-to-Maturity
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Due in one year or less	$	990	$	1,078	$	—	$	—
Due after one year through five years		1,046		1,107		—		—
Due after five years through ten years		10,734		11,369		—		—
Due after ten years		22,759		23,880		9,091		8,768

	$	35,529	$	37,434	$	9,091	$	8,768

Note 4. Stock Option Plans

The Company has adopted both the Employee Stock Option Plan (Incentive Plan) and the Director Stock Option Plan (Nonstatutory Plan). Under each plan up to 178,937 shares may be issued for a total of 357,874 shares. Options granted under both plans expire no more than 10 years from date of grant. Option exercise price under both plans shall be set by a committee of the Board of Directors at the date of grant, but shall not be less than 100% of fair market value at the date of the grant. Options granted under either plan vest according to the terms of each particular grant.

Activity under the Company plans during the six months ended June 30, 2010 is summarized below:


	Incentive Plan			Nonstatutory Plan
	Available For Grant	Granted		Available For Grant	Granted
*Balance, December 31, 2008*	8,288	168,549		3	178,934
Forfeited	4,500	(4,500	)	34,962	(34,962	)

*Balance, June 30, 2010*	12,788	164,049		34,465	143,972

A stock option may be exercised, in whole or in part, by giving written notice of exercise to the Corporate Secretary of the Company, or such other officer of the Company as the Committee shall designate, specifying the number of shares to be purchased along with payment in full of the exercise price. The Committee may, in the relevant award agreement, also permit a participant (either on a selective or group basis) to simultaneously exercise stock options and sell the shares of common stock thereby acquired, and use the proceeds from such sale as payment of the exercise price of such stock options. Payment instruments shall be received by the Company subject to collection. The proceeds received by the Company upon exercise of any stock option may be used by the Company for general corporate purposes.

There were no options granted or exercised in the six months ending June 30, 2010 or 2009. Options of 39,462 were forfeited in the six months ended June 30, 2010. There were no options forfeited in the six months ended June 30, 2009.

Information regarding the stock options outstanding at June 30, 2010 is as follows (dollars in thousands):


Range of Exercise Prices	Number Outstanding and Exercisable	Weighted Average Remaining Contractual Life	Weighted Average Exercise Price		Aggregate Intrinsic Value
$8.80-9.99	88,281	0.83 Years	$	8.80	$	—
$10.00-10.39	124,168	4.17 Years	$	10.00		—
$10.40-11.20	95,572	3.98 Years	$	10.70		—

	308,021	3.15 Years	$	9.87	$	—

The weighted average exercise price for options outstanding at January 1, 2010 was $9.87. No compensation expense was recognized in 2009 and for the six months ended June 30, 2010.

Note 5. Guaranteed Preferred Beneficial Interest in the Company’s Junior Subordinated Debentures

The Oak Ridge Statutory Trust I (the “Trust”) was created by the Company on September 28, 2007, at which time the Trust issued $8.0 million in aggregate liquidation amount of $1 par value preferred capital trust securities that mature on September 28, 2037. Distributions are payable on the securities at the floating rate equal to the three-month London Interbank Offered Rate (“LIBOR”) plus 1.60%, and the securities may be prepaid at par by the Trust at any time after September 17, 2012. The principal assets of the Trust are $8.3 million of the Company’s junior subordinated debentures which mature on September 17, 2037, and bear interest at the floating rate equal to the three month LIBOR plus 1.60%, and which are callable by the Company after September 28, 2012. All $248,000 in the aggregate liquidation amount of the Trust’s common securities are held by the Company.

Note 6. Fair Value of Financial Instruments

Fair value estimates are made by management at a specific point in time, based on relevant information about the financial instrument and the market. 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 nor are potential taxes and other expenses that would be incurred in an actual sale considered. Fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions and/or the methodology used could significantly affect the estimates disclosed. Similarly, the fair values disclosed could vary significantly from amounts realized in actual transactions.

The following table presents the carrying values and estimated fair values of the Company’s financial instruments at June 30, 2010 and December 31, 2009 (dollars in thousands):


	June 30, 2010				December 31, 2009
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
*Financial assets*
Cash and cash equivalents	$	25,500	$	25,500	$	11,071	$	11,071
Securities, available-for-sale		37,434		37,434		47,184		47,184
Securities, held-to-maturity		9,091		8,768		10,355		9,700
Federal Home Loan Bank Stock		1,342		1,342		1,342		1,342
Loans, net of allowance for loan losses		253,322		255,192		247,633		248,875
Bank owned life insurance		4,711		4,711		4,627		4,627

*Financial liabilities*
Deposits		295,331		293,665		291,684		293,763
Junior subordinated notes related to trust preferred securities		8,248		8,248		8,248		8,248
Long-term debt		9,000		9,000		9,000		9,000

The estimated fair values of net loans, deposits and long-term obligations at June 30, 2010 and December 31, 2009 are based on estimated cash flows discounted at market interest rates. The carrying values of other financial instruments, including various receivables and payables, approximate fair value. The carrying amounts and the fair values of the junior subordinated notes related to trust preferred securities and long-term debt are equal as the rates on the underlying obligations reprice every three months. Refer to Note 3 for investment securities fair value information. The fair value of off-balance sheet financial instruments is considered immaterial. These off-balance sheet financial instruments are commitments to extend credit and are either short-term in nature or subject to immediate repricing.

Fair Value Hierarchy

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.

The Company utilizes fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. Securities available-for-sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as loans held for sale, loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.

There were no changes to the techniques used to measure fair value during the period.

Note 6. Fair Value of Financial Instruments, continued

Following is a description of valuation methodologies used for assets recorded at fair value.

Investment Securities Available-for-Sale

Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.

Loans

The Company does not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allowance for loan losses is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures impairment using one of several methods, including collateral value, market price and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans. At June 30, 2010, substantially all of the total impaired loans were evaluated based on the fair value of the collateral. Impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the impaired loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the impaired loan as nonrecurring Level 3.

Foreclosed Assets

Foreclosed assets are adjusted to fair value upon transfer of the loans to other real estate owned. Real estate acquired in settlement of loans is recorded initially at estimated fair value of the property less estimated selling costs at the date of foreclosure. The initial recorded value may be subsequently reduced by additional allowances, which are charged to earnings if the estimated fair value of the property less estimated selling costs declines below the initial recorded value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the foreclosed asset as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the foreclosed asset as nonrecurring Level 3.

Assets recorded at fair value on a recurring basis


June 30, 2010 (Dollars in thousands)	Total		Level 1		Level 2		Level 3
Government-sponsored enterprise securities	$	2.185	$	—	$	2,185	$	—
FNMA mortgage-backed securities		8,859		—		8,859		—
Private label mortgage-backed securities		16,702		—		16,702		—
SBIC or SBA debentures		9,188		—		9,188		—
Other domestic debt securities		500		—		—		500

Investment securities available-for-sale	$	37,434	$	—	$	36,934	$	500

Total assets at fair value	$	37,434	$	—	$	36,934	$	500


December 31, 2009 (Dollars in thousands)	Total		Level 1		Level 2		Level 3
Government-sponsored enterprise securities	$	2,149	$	—	$	2,149	$	—
FNMA mortgage-backed securities		10,704		—		10,704		—
Private label mortgage-backed securities		24,059		—		24,059		—
SBIC or SBA debentures		9,772		—		9,772		—
Other domestic debt securities		500		—		—		500

Investment securities available-for-sale	$	47,184	$	—	$	46,684	$	500

Total assets at fair value	$	47,184	$	—	$	46,684	$	500

Note 6. Fair Value of Financial Instruments, continued

Assets recorded at fair value on a nonrecurring basis


June 30, 2010 (Dollars in thousands)	Total		Level 1		Level 2		Level 3
1-4 family residential construction loans	$	4,127	$	—	$	—	$	4,127
Revolving, open-end loans secured by 1-4 family residential properties		150		—		—		150
Closed-end first lien loans secured by 1-4 family residential properties		505		—		—		505
Commercial and industrial loans		104		—		—		104
Secured by multifamily (5 or more) residential properties		1,564		—		—		1,564
Secured by nonfarm nonresidential properties		685		—		—		685

Loans receivable		7,135		—		—		7,135
Foreclosed assets		572		—		—		572

Total assets at fair value	$	7,707	$	—	$	—	$	7,707

Total liabilities at fair value	$	—	$	—	$	—	$	—


December 31, 2009 (Dollars in thousands)	Total		Level 1		Level 2		Level 3
1-4 family residential construction loans	$	2,437	$	—	$	—	$	2,437
Revolving, open-end loans secured by 1-4 family residential properties		129		—		—		129
Closed-end first lien loans secured by 1-4 family residential properties		710		—		—		710
Loans secured by nonfarm, nonresidential properties		192		—		—		192
Commercial and industrial loans		135		—		—		135

Loans receivable		3,603		—		—		3,603
Foreclosed assets		1,288		—		—		1,288

Total assets at fair value	$	4,891	$	—	$	—	$	4,891

Total liabilities at fair value	$	—	$	—	$	—	$	—

The table below presents a reconciliation for all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (level 3) for the six months ended June 30, 2010 and the year ended December 31, 2009.


(Dollars in thousands)	Available-for Sale Securities
Balance, January 1, 2010	$	500
Total gains or losses (realized/unrealized):
Included in earnings		—
Included in other comprehensive income		—
Purchases, issuances, and settlements		—
Transfers in to/out of Level 3		—

Balance, June 30, 2010	$	500


(Dollars in thousands)	Available-for Sale Securities
Balance, January 1, 2009	$	500
Total gains or losses (realized/unrealized):
Included in earnings		—
Included in other comprehensive income		—
Purchases, issuances, and settlements		—
Transfers in to/out of Level 3		—

Balance, December 31, 2009	$	500

Note 7. U.S. Treasury’s Troubled Asset Relief Capital Purchase Program

On January 30, 2009, the Company entered into an agreement with the Treasury. The Company issued and sold to the Treasury 7,700 shares of the Company’s fixed rate cumulative preferred stock, Series A (“Series A Preferred Stock”). The preferred stock calls for cumulative dividends at a rate of 5% per year for the first five years, and at a rate of 9% per year in following years. The Company also issued a warrant to purchase 163,830 shares of the Company’s common stock. The Company received $7.7 million in cash. This resulted in restrictions on the Company’s ability to pay dividends on its common stock and to repurchase shares of its common stock. Unless all accrued dividends on the Series A Preferred Stock have been paid in full, (1) no dividends may be declared or paid on the Company’s common stock, and (2) the Company may not repurchase any of its outstanding common stock. Additionally, until January 16, 2012, the Company is required to obtain the consent of the Treasury in order to declare or pay any dividend or make any distribution on its common stock, or, subject to certain exceptions, repurchase outstanding shares of our common stock, unless we have redeemed all of the Series A Preferred Stock or the Treasury has transferred all of those shares to third parties.

Note 8. Recent Accounting Pronouncements

In January 2010, fair value guidance was amended to require disclosures for significant amounts transferred in and out of Levels 1 and 2 and the reasons for such transfers and to require that gross amounts of purchases, sales, issuances and settlements be provided in the Level 3 reconciliation. The new disclosures are effective for the Company for the current quarter and have been reflected in the Fair Value footnote.

Guidance related to subsequent events was amended in February 2010 to remove the requirement for an Securities and Exchange (“SEC”) filer to disclose the date through which subsequent events were evaluated. The amendments were effective upon issuance and had no significant impact on the Company’s financial statements.

In March 2010, guidance related to derivatives and hedging was amended to exempt embedded credit derivative features related to the transfer of credit risk from potential bifurcation and separate accounting. Embedded features related to other types of risk and other embedded credit derivative features were not exempt from potential bifurcation and separate accounting. The amendments will be effective for the Company on July 1, 2010 although early adoption is permitted. The Company does not expect these amendments to have any impact on the financial statements.

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

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Management’s discussion and analysis is intended to assist readers in understanding and evaluating our consolidated financial condition and results of operations. This discussion should be read in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2009.

We are a commercial bank holding company, incorporated in 2007. The accompanying consolidated financial statements include the accounts and transactions of the Company and its wholly owned subsidiary, the Bank. All significant intercompany transactions and balances are eliminated in consolidation.

The Bank was incorporated and began banking operations in 2000. The Bank is engaged in commercial banking predominantly in Guilford and Forsyth Counties, North Carolina. The Bank is operating under the banking laws of North Carolina and the rules and regulations of the Federal Deposit Insurance Corporation (“FDIC”) and the North Carolina Commissioner of Banks. The Bank’s primary source of revenue is derived from loans to customers, who are predominantly individuals and small to medium size businesses in Guilford and Forsyth Counties.

Executive Summary

In the first six months of 2010, management has continued to focus on managing credit quality, building liquidity sources, managing capital, and improving operational earnings of the Company, either by developing strategies to grow existing revenue streams or by improving operational efficiencies. As always, we continue our on-going efforts of meeting the financial services needs of our customers and communities, especially in this challenging economic environment.

Managing Credit Quality

Senior management continues to work closely with credit administration and our lending staff to insure that adequate resources are in place to proactively manage through the current slowdown in the real estate markets and overall economy. When problems are identified, management remains diligent in assessing the situation, moving quickly to minimize losses, while being sensitive to the borrower’s effectiveness as an operator, the long-term viability of the business or project, and the borrower’s commitment to working with the Bank to achieve an acceptable resolution of the credit. If the economic slowdown continues, we will most likely continue to experience a rise in non-performing assets as we address each situation on a case-by-case basis. When faced with possible loss situations, management may determine it is in the shareholders’ best long-term interest to work with the borrower or oversee a viable project through to completion.

We anticipate that a prolonged economic slowdown will place significant pressure on the consumers and businesses in North Carolina. We have attempted to proactively address the needs of the Bank, our borrowers, and the community through our Community Loan Investment Program, which has been in place since February 2009, and offers incentives to buyers of our builder’s homes financed by the Bank. Through our Community Loan Investment Program, which is being utilized by the majority of our builders, we have been able to move 12 out of 21 jumbo homes and 12 out of 18 conventional homes out of our builder construction portfolio— either to permanent mortgages placed with other lenders or permanent mortgages financed by the Bank to qualified borrowers. The program has resulted in the reduction of our exposure to jumbo homes from $11.1 million to $5.7 million, and the reduction of our exposure to conventional homes from $4.6 million to $1.5 million. We have also extended this program to cover the residential lot inventory of our development borrowers. This program can be accessed through our website at www.bankofoakridge.com.

Building Liquidity Sources

Management has continued to focus on providing additional liquidity sources, both on-balance sheet and off. During the year ended December 31, 2009, we reduced our borrowings with the FHLB from $22 million to $9 million. The reduction in borrowings with the FHLB has provided us with additional availability to meet unforeseen liquidity demands that may arise. Additionally, during 2009 noninterest bearing deposits increased $2.3 million and interest bearing checking, savings, and money market accounts increased $20.2 million. Time deposits, which represent our highest cost source of deposit funding, decreased by $1.4 million. For the first six months of 2010 noninterest bearing deposits increased $4.9 million and interest bearing checking, savings, and money market accounts increased $17.5 million. Time deposits decreased by $18.6 million, reflecting our continuing strategy to reduce our dependence on this type of funding. We believe that the increase in noninterest bearing and interest bearing checking, savings and money market balances has been due to increased marketing, advertising and sales activities as well as a general dislike of large banks by consumers and businesses, however, some of the increase has likely been due to a flight to the safety of FDIC insured deposits by consumers and businesses. As of June 30, 2010, we currently have securities with a market value of $5.0 million pledged to the FHLB, and have unpledged securities held in safekeeping at the FHLB with a market value of $40.2 million that could be pledged or sold if needed. The Bank also has unused Federal Funds purchased lines totaling $6.0 million with two correspondent banks. In addition, management has plans to continue to build off-balance sheet sources of liquidity.

Managing Capital

The Company was able to bolster its capital levels through its $7.7 million participation in the Capital Purchase Program (“CPP”) on January 30, 2009. Of the total $7.7 million CPP funds received, to date $1.1 million of the CPP funds have been contributed to the Bank as additional equity capital. Approximately $6.7 million in unused capital are retained by the Company but could be pushed down to the Bank if needed. With total risk-based capital levels at the Bank of 11.50% and 11.45% at June 30, 2010 and December 31, 2009, respectively, the Bank is above the minimum 10% requirement to be classified as well-capitalized. If the remaining $6.7 million of available capital at the Company were contributed to the Bank as additional equity capital, the Bank’s total risk-based capital ratio would be 13.9% at June 30, 2010 and would place it well above the minimum well-capitalized requirement of 10%. Despite healthy capital levels, due to significant uncertainty surrounding the depth or the length of the current economic slowdown, management continues to be diligent in its efforts to maintain healthy levels of excess capital above minimum requirements. In 2009 and 2010, the Company’s Board of Directors and senior executives had four separate presentations with investment firms to look at the feasibility of raising common equity to allow the Company to repay the U.S. Treasury for its $7.7 million investment in the Company through the CPP. The Company has concluded that at the current time it is not feasible, due to weak equity market conditions, or preferable, due to the potential dilution of current shareholders, to raise common equity in the open markets. However, the Company is exploring the establishment of an Employee Stock Ownership Plan (“ESOP”) as one possible vehicle to generate common equity. During the three months ended June 30, 2010, the Company, at the request of the Board of Directors, made a $300,000 pre-tax ESOP accrual that may be contributed to the ESOP once it is established. The Company believes that there are many advantages to an ESOP as a vehicle to raise capital, with the principal ones being favorable tax treatment of ESOP contributions, possible lower dilution to existing shareholders’ compared to a common equity offering, and the promotion in the Bank’s marketplace of every employee as a participant in the ESOP owning a part of the Company.

Improving Operational Earnings

Pretax, pre-loan loss provision, ESOP accrual and gain on sale of securities, and post-CPP dividend payment (“Proforma earnings”), earnings were $977 thousand for the three months ended June 30, 2010, compared to $579 thousand for the same period in 2009, an increase of approximately $398 thousand. Pretax, pre-loan loss provision, ESOP accrual and gain on sale of securities, and post-CPP dividend payment, earnings were $1.9 million for the six months ended June 30, 2010, compared to $1.0 million for the same period in 2009, an increase of approximately $820 thousand.


	Three months ended June 30,						Six months ended June 30,
	2010			2009			2010			2009
	*(dollars in thousands)*
Income before income taxes (GAAP)	$	(11	)	$	373		$	996		$	527
Add:
Provision for loan losses		784			303			1,137			669
Subtract:
ESOP accrual		300			—			300			—
Pretax gain on sale of securities		—			—			(386	)		—
Preferred stock dividends		(96	)		(97	)		(192	)		(161	)


Proforma earnings (Non-GAAP)	$	977		$	579		$	1,855		$	1,035

During the fourth quarter of 2008, in anticipation of receiving the CPP funds, management began implementing a strategy to invest unutilized capital at the Company level from our 2007 trust preferred issuance in private label mortgage-backed and government agency securities, well before mortgage rates in this sector began to decline due to aggressive purchases by the Federal Reserve, the Treasury, and other community banks seeking to leverage their new CPP funds. That strategy resulted in the Company purchasing $13.1 million in private label mortgage-backed securities and government agency securities in the fourth quarter of 2008, and an additional $24.8 million of Small Business Investment Company (“SBIC”) debentures, Small Business Administration (“SBA”) debentures and private label mortgage-backed securities during the first six months of 2009. Although impairment testing by management resulted in impairment charges of $105 thousand and $21 thousand during the six months ended June 30, 2009 and 2010, respectively, the investment purchase strategy by management has resulted in an effective deployment of part of the CPP funds, and has positively offset the Company’s CPP dividends and loan loss provisions in 2009 and 2010, as evidenced by the Bank’s total investment securities yield being in the 98th percentile as compared to the Bank’s national FDIC peer group for the six months ended June 30, 2010.

Our core strategies continue to be (1) grow the loan portfolio while maintaining high asset quality; (2) increase noninterest income; (3) grow core deposits; (4) manage expenses; and (5) make strategic investments in personnel and technology to increase revenue and increase efficiency.

Comparison of Results of Operations for the Three- and Six-Month Periods Ending June 30, 2010 and 2009

Net Income

The following table summarizes components of income and expense and the changes in those components for the three- and six-month periods ended June 30, 2010 as compared to the same periods in 2009.

Condensed Consolidated Statements of Income (Dollars in thousands)


	For the Three Months Ended			Changes from the Prior Year					For the Six Months Ended		Changes from the Prior Year
	June 30, 2010			Amount			%		June 30, 2010		Amount			%

Total interest income	$	4,448		$	(597	)	(11.8	)	$	9,081	$	(659	)	(6.8	)
Total interest expense		1,209			(823	)	(40.5	)		2,518		(1,743	)	(40.9	)


Net interest income		3,239			226		7.5			6,563		1,084		19.8
Provision for loan losses		784			481		158.7			1,137		468		70.0

Net interest income after provision for loan losses		2,455			(255	)	(9.4	)		5,426		616		12.8
Noninterest income		1,016			151		17.5			2,211		517		30.5
Noninterest expense		3,482			280		8.7			6,641		664		11.1

Income (loss) before income taxes		(11	)		(384	)	(102.9	)		996		469		89.0
Income tax expense (benefit)		(26	)		(157	)	(119.8	)		342		157		84.9

Net income		15			(227	)	(93.8	)		654		312		91.2
Preferred stock dividend and accretion of discount		182			18		11.0			364		92		33.8

Net income available to common shareholders	$	(167	)	$	(245	)	(314.1	)	$	290	$	220		314.3

Net Interest Income

Net interest income (the difference between the interest earned on assets, such as loans and investment securities and the interest paid on liabilities, such as deposits and other borrowings) is our primary source of operating income. Net interest income for the three months ended June 30, 2010 was $3.2 million, an increase of $226 thousand or 7.5% when compared to net interest income of $3.0 million for the three months ended June 30, 2009. For the six months ended June 30, 2010, net interest income was $6.6 million, an increase of $1.1 million or 19.8% when compared to net interest income of $5.5 million for the same period in 2009.

The level of net interest income is determined primarily by the average balances (volume) of interest-earning assets and interest-bearing liabilities and the various rate spreads between our interest-earning assets and our interest-bearing liabilities. Changes in net interest income from period to period result from increases or decreases in the volume of interest-earning assets and interest-bearing liabilities, increases or decreases in the average interest rates earned and paid on such assets and liabilities, the ability to manage the interest-earning asset portfolio (which includes loans), and the availability of particular sources of funds, such as non interest bearing deposits.

Interest income decreased $597 thousand or 11.8% for the three months ended June 30, 2010 compared to the same three months of 2009. Interest income decreased $659 thousand or 6.8% for the six months ended June 30, 2010 compared to the same six months in 2009. The decreases for the three and six months ended June 30, 2010 are primarily due to decreases in rates eaned on these assets. The yield on average earning assets decreased 85 basis points for the quarter ended June 30, 2010 to 5.47% from 6.32% for the same period in 2009. For the first six months of 2010, the yield on average earning assets decreased 59 basis points to 5.62% compared to 6.21% at June 30, 2009. Management attributes the decrease in the yield on our earning assets to the decline in yields available on investments as well as a slight decline in the offering rates on new loans.

Our average cost of funds during the second quarter of 2010 was 1.66%, a decrease of 105 basis points when compared to 2.71% for the second quarter of 2009. Average rates paid on deposits decreased 104 basis points from 2.74% for the quarter ended June 30, 2009 to 1.70% for the quarter ended June 30, 2010, while our average cost of borrowed funds decreased 118 basis points during the second quarter of 2010 compared to the same period in 2009. Total interest expense decreased $823 thousand or 40.5% during the second quarter of 2010 compared to the same period in 2009, primarily the result of decreased market rates paid on these liabilities. For the six months ended June 30, 2010, our cost of funds was 1.74% a decrease of 117 basis points when compared to 2.91% for the same period in 2009. Average rates on deposits decreased 117 basis points from 2.95% to 1.78% for the first six months of 2010, while our cost of borrowed funds decreased 137 basis points compared to the same period a year ago. Total interest expense decreased $1.7 million or 40.9% during the six months of 2010 compared to the same period in 2009, primarily the result of decreased market rates paid on these liabilities.

The banking industry uses two key ratios to measure profitability of net interest income: net interest rate spread and net interest margin. The net interest rate spread measures the difference between the average yield on earning assets and the average rate paid on interest-bearing liabilities. The net interest rate spread does not consider the impact of non-interest-bearing deposits and gives a direct perspective on the effect of market interest rate movements. The net interest margin is defined as net interest income as a percentage of total average earning assets and takes into account the positive effects of investing non-interest bearing deposits in earning assets.

Margin pressure tightened during the second quarter of 2010 as our net interest margin declined slightly from the first quarter of 2010. Margins could continue to decline further over the next several months as funding costs reach their floors and asset yields continue to decline.

Our annualized net interest margin for the three months ended June 30, 2010 was 4.04% compared to 3.82% in the second quarter of 2009 while our net interest spread increased 20 basis points during the same period. For the six months ended June 30, 2010, our net interest margin was 4.12% compared to 3.54% for the six months ended June 30, 2009 while our net interest spread increased 58 basis points.

Management plans to continue to improve net interest income by growing our balance sheet while maintaining a constant or improving interest margin.

Noninterest Income

Noninterest income, principally charges and fees assessed for the use of our services, is a significant contributor to net income. The following table presents the components of noninterest income for the three and six months ended June 30, 2010 and 2009 (dollars in thousands).

Sources of Noninterest Income (Dollars in thousands)


	For the Three Months Ended		Changes from the Prior Year					For the Six Months Ended		Changes from the Prior Year
	June 30, 2010		Amount			%		June 30, 2010		Amount			%

Service charge on deposit accounts	$	194	$	(11	)	(5.4	)	$	394	$	(14	)	(3.4	)
Gain on sale of securities		—		—		N/A			386		386		N/A
Mortgage loan origination fees		123		(22	)	(15.2	)		184		(117	)	(38.9	)
Investment and insurance commissions		278		116		71.6			470		134		39.9
Fee income from accounts receivable financing		236		55		30.4			426		71		20.0
Debit card interchange income		122		38		45.2			226		71		45.8
Income earned on bank owned life insurance		41		(24	)	(36.9	)		84		(13	)	(13.4	)
Other service charges and fees		22		(1	)	(4.3	)		41		(1	)	(2.4	)

Total noninterest income	$	1,016	$	151		17.5		$	2,211	$	517		30.5

Noninterest income increased $151 thousand or 17.5% to $1.0 million for the second quarter of this year compared to $865 thousand for the same period in 2009. For the six months ended June 30, 2010 noninterest income increased $517 thousand or 30.5% to $2.2 million compared to $1.7 million for the same period in 2009. The increase in noninterest income in the second quarter of 2010 is primarily due to an increase in investment and insurance commissions. The year to date increase in noninterest income is also the result of increases in investment and insurance commissions as well as gains on the sale of securities of $386 thousand. Fee income from accounts receivable increased $55 thousand and $71 thousand, respectively for the three and six months ended June 30, 2010 as compared to the same periods in 2009. The primary reason for the increase was higher receivables of existing clients and several new clients in 2010 as compared to 2009. Debit card interchange income increased $38 thousand and $71 thousand, respectively for the three and six months ended June 30, 2010 as compared to the same periods in 2009. The primary reason for the increase was the implementation of a debit cards reward program in the fourth quarter of 2009 that caused higher card activity in 2010 as compared to 2009. Mortgage loan origination fees decreased $22 thousand and $117 thousand, respectively for the three and six months ended June 30, 2010 as compared to the same periods in 2009. The primary reason for the decrease was a decline in mortgage closings from 2009 to 2010, although mortgage refinancing and home purchase activity picked up sharply in the second three months of 2010 due to the continuing decline in mortgage rates. Management expects the increased activity to continue through the third quarter of 2010.

Noninterest Expense

Noninterest expense increased 8.7% and 11.1%, respectively for the three and six months ended June 30, 2010, as compared to the same periods in 2009. The following table presents the components of noninterest expense for the three and six months ended June 30, 2010 and dollar and percentage changes from the prior year.

Sources of Noninterest Expense (Dollars in thousands)


	For the Three Months Ended		Changes from the Prior Year					For the Six Months Ended		Changes from the Prior Year
	June 30, 2010		Amount			%		June 30, 2010		Amount			%

Salaries	$	1,320	$	64		5.1		$	2,718	$	234		9.4
Employee benefits		463		321		226.1			616		316		105.3
Occupancy expense		224		46		25.8			460		95		26.0
Equipment expense		225		51		29.3			419		75		21.8
Data and items processing		186		31		20.0			341		41		13.7
Professional and advertising		303		(21	)	(6.5	)		737		123		20.0
Stationary and supplies		68		15		28.3			129		21		19.4
Net loss on sale of foreclosed and repossessed assets		52		(130	)	(71.4	)		45		(257	)	(85.1	)
Telecommunications expense		60		(13	)	(17.8	)		117		(22	)	(15.8	)
FDIC assessment		138		(81	)	(37.0	)		269		(23	)	(7.9	)
Accounts receivable financing expense		84		28		50.0			143		34		31.2
Total other-than-temporary impairment loss		21		(84	)	(80.0	)		21		(84	)	(80.0	)
Other expense		338		53		18.6			626		111		21.6

Total noninterest expense	$	3,482	$	280		8.7		$	6,641	$	664		11.1

Salary expense for the three and six months ended June 30, 2010 increased $64 thousand and $234 thousand, respectively, compared to the same prior year periods. The increases were due to salary increases of approximately 3.0% that were effective January 1, 2010, as well as new positions that were added during 2010.

Employee related benefits expense for the three and six months ended June 30, 2010 increased $321 thousand and $316 thousand, respectively, over the same prior year periods. The primary reason for this increase was a $300 thousand ESOP accrual in the three months ended June 30, 2010. The Company plans to convert any ESOP accruals to common stock in the Company at a later date as one possible way to pay back the Treasury’s $7.7 million in the Company as part of the CPP.

Occupancy expense for the three and six months ended June 30, 2010 increased $46 thousand and $95 thousand, respectively, over the same prior year periods. The primary reason for this increase was the completion and occupancy of the Company’s 14,000 square foot Corporate Center in July of 2009.

Equipment expense for the three and six months ended June 30, 2010 increased $51 thousand and $75 thousand, respectively, over the same prior year periods. The primary reason for this increase was also the completion and occupancy of the Company’s Corporate Center in July of 2009.

Professional and advertising expenses for the three months ended June 30, 2010 decreased $21 thousand over prior year periods. The primary reasons for the decrease during this period were declines in marketing and advertising expenses and audit, tax and accounting fees, offset by increases in legal fees and debit card expenses. Professional and advertising expenses for the six months ended June 30, 2010 increased $123 thousand over prior year periods. The primary reasons for the increase were increases in marketing and advertising expenses due to increased spending in this area during the first three months of 2010 compared to the same prior year period, increases in legal fees due to higher loan related expenses in this area, increases in bank service charges due to increased account activity, increases in consultant fees due to the greater use of consultants for information technology and risk management purposes, increases in debit card expenses due to the implementation of a card rewards program in December 2009, and increases in payments to vendors for ancillary services.

Net loss on sale of foreclosed and repossessed assets for the three and six months ended June 30, 2010 decreased $130 thousand and $257 thousand, respectively, over the same prior year periods. The primary reason for the decline was a stabilization of the Bank’s real estate market in 2010 compared to 2009, as well as better estimation in 2010 compared to 2009 of real estate values when the Bank foreclosed on the underlying collateral securing loans.

FDIC assessment for the three and six months ended June 30, 2010 decreased $81 thousand and $23 thousand, respectively, over the same prior year periods. The primary reason for the decrease was a special FDIC assessment in the second quarter of 2009 equivalent to 5 basis points on total assets minus tier one capital. For the Bank the special assessment amounted to $162,000.

Total other-than-temporary impairment loss in each of the three and six months ended June 30, 2010 decreased $84 thousand over the same prior year periods. The Company performs quarterly impairment testing on its investment portfolio, and additional impairment losses were recorded in 2010 as a result.

Other expense for the three and six months ended June 30, 2010 increased $53 thousand and $111 thousand, respectively, over the same prior year periods. The primary reasons for the increase were increases in dues and memberships, education and training, and real estate and property taxes.

Income Taxes

Income tax benefit for the three months ended June 30, 2010 was $26 thousand compared to income tax expense of $131 thousand for the same period in 2009. The primary reason for the income tax benefit was an adjustment in the Company’s effective tax rate from 36.5% in the three months ended March 31, 2010 to 34.3% in the three months ended June 30, 2010. The decline in the effective rate, coupled with the relatively small loss before income tax benefit of $11 thousand caused the proportionally large income tax benefit in the three months ended June 30, 2010. Income tax expense for the six months ended June 30, 2010 and 2009 was $342 thousand and $185 thousand, respectively, resulting in effective tax rates of 34.3% and 35.1%, respectively.

Analysis of Financial Condition at June 30, 2010 and December 31, 2009

Loans Receivable

As of June 30, 2010, total loans increased to $253.3 million, up 0.8% from total loans of $251.3 million at December 31, 2009. The increase in loans is a result of the Bank’s continuing expansion in the Piedmont Triad area. Although the number of loan opportunities that meet the Company’s underwriting standards has declined, there are some opportunities with existing and new clients of the Company, and the Company makes every effort to extend credit to credit qualified consumers and businesses. The Company makes both commercial and consumer loans to borrowers in all neighborhoods within its market areas, including low- and moderate-income areas. The Company emphasizes commercial loans to small- and medium-sized businesses, real estate loans, and consumer loans.

Allowance for Loan Losses

We consider the allowance for loan losses adequate to cover estimated probable loan losses relating to the loans outstanding as of each reporting period. The procedures and methods used in the determination of the allowance necessarily rely upon various judgments and assumptions about economic conditions and other factors affecting our loans. In addition, various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan losses. Those agencies may require us to recognize adjustments to the allowance for loan losses based on their judgments about the information available to them at the time of their examinations. No assurance can be given that we will not in any particular period sustain loan losses that are sizable in relation to the amount reserved or that subsequent evaluations of the loan portfolio, in light of conditions and factors then prevailing, will not require significant changes in the allowance for loan losses or future charges to earnings.

The following table summarizes the balances of loans outstanding, average loans outstanding, changes in the allowance arising from charge-offs and recoveries by category and additions to the allowance that have been charged to expense.

Analysis of the Allowance for Loan Losses (Dollars in thousands)


	At June 30,
	2010			2009
Allowance for loan losses at beginning of period	$	3,667		$	2,448
Loans charged off:
Real estate - mortgage		(795	)		(113	)
Home equity lines of credit		—			—
Commercial and industrial		(197	)		(53	)
Loans to individuals		(17	)		(16	)

Total charge-offs		(1,009	)		(182	)

Recoveries:
Real estate - mortgage		—			—
Home equity lines of credit		—			—
Commercial and industrial		5			84
Loans to individuals		14			15

Total recoveries		19			99

Net charge-offs		(989	)		(83	)
Provision for loan losses		1,137			669

Allowance for loan losses at end of period	$	3,814		$	3,034

Total loans outstanding at end of period	$	253,322		$	247,009

Average loans outstanding	$	251,572		$	248,647

Ratios:
Ratio of net loan charge-offs to average loans outstanding		0.39	%		(0.03	%)
Ratio of allowance for loan losses to loans outstanding at period-end		1.51	%		1.23	%

At June 30, 2010, our allowance for loan losses as a percentage of loans was 1.51%, up from 1.46% at December 31, 2009 and 1.23% at June 30, 2009. The increase in part reflects the increase in our historical loss rate as our charge-offs have increased during the past year. Also, the increase reflects the recognition of additional loans identified as being impaired. In evaluating the allowance for loan losses, we prepare an analysis of our current loan portfolio through the use of historical loss rates, homogeneous risk analysis grouping to include probabilities for loss in each group by risk grade, estimation of years to impairment in each homogeneous grouping, analysis of internal credit processes, and past due loan portfolio performance and overall economic conditions, both regionally and nationally.

Historical loss calculations for each homogeneous risk group are based on a weighted average loss ratio calculation. The most previous quarter’s loss history is used in the loss history and is adjusted to reflect current losses in the homogeneous risk groups. Current losses translate into a higher loss ratio which is further increased by the associated risk grades within the group. The impact is to more quickly recognize and increase the loss history in a respective grouping, resulting in an increase in the allowance for that particular homogeneous group. For those groups with little or no loss history, management bases the historical factor based on current economic conditions and their potential impact on that particular loan group.

Loans are considered impaired if, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal and interest when due according to the contractual terms of the loan agreement. The measurement of impaired loans is based on either the fair value of the underlying collateral, the present value of the future cash flows discounted at the historical effective interest rate stipulated in the loan agreement, or the estimated market value of the loan. In measuring the fair value of the collateral, management uses a comparison to the recent selling price of similar assets, which is consistent with those that would be utilized by unrelated third parties.

While we believe that our management uses the best information available to determine the allowance for loan losses, unforeseen market conditions could result in adjustments to the allowance for loan losses, and net income could be significantly affected if circumstances differ substantially from the assumptions used in making the final determination. Because these factors and management’s assumptions are subject to change, the allocation is not necessarily indicative of future loan portfolio performance.

Loans are charged-off against the Bank’s allowance for loan losses as soon as the loan becomes uncollectible. Unsecured loans are considered uncollectible when no regularly scheduled monthly payment has been made within three months, the loan matured over 90 days ago and has not been renewed or extended or the borrower files for bankruptcy. Secured loans are considered uncollectible when the liquidation of collateral is deemed to be the most likely source of repayment. Once secured loans reach 90 days past due, they are placed into non-accrual status unless the loan is considered to be well secured and in process of collection. If the loan is deemed to be collateral dependent, the principal balance is either written down immediately or reserved as a write-down in the Bank’s allowance model to reflect the current market valuation based on an independent appraisal which may be adjusted by management based on more recent market conditions. Included in the write-down is the estimated expense to liquidate the property and typically an additional allowance for the foreclosure discount. Generally, if the loan is unsecured the loan must be charged-off in full while if it is secured the loan is charged down to the net liquidation value of the collateral.

Net charge-offs of $989 thousand in the first six months of 2010 increased by $906 thousand when compared to the same period in 2009. Charge-offs from real estate secured loans were $795 thousand and $113 thousand in 2010 and 2009, respectively. There were no charge-offs from home equity lines of credit in the first six months of 2010 and 2009. Charge-offs from commercial and industrial loans were $197 thousand in the first six months of 2010 compared to $53 thousand during the same period in 2009. Charge-offs from loans to individuals was $17 thousand and $16 thousand in the first six months of 2010 and 2009, respectively. There were minimal recoveries in the first six months of 2010, however, there were $99 thousand in commercial and industrial loan recoveries during the same period in 2009.

Asset quality remains a top priority of the Bank. For the six months ended June 30, 2010, annualized net loan charge-offs were 0.39% of average loans compared to annualized net recoveries of 0.03% for the six months ended June 30, 2009. The ratio of annualized net charge-offs to average loans increased mainly due to the Bank writing off and writing down a number of real estate loans in the six months ended June 30, 2010. The increase in the allowance for loan losses to loans to 1.51% at June 30, 2010 from 1.23% at June 30, 2009 reflects the increase in our historical loss rate as our charge-offs have increased during the past year. Also, the increase reflects the recognition of additional loans identified as being impaired which require specific reserves. The ratio of our allowance for loan losses to nonperforming loans decreased to 62% as of June 30, 2010 compared to 99% at December 31, 2009. The decrease is the result of our allowance increasing approximately 4% from December 31, 2009 to June 30, 2010 and our nonperforming loans increasing approximately 168% during the same period.

Loans Considered Impaired

We review our nonperforming loans and other groups of loans based on loan size or other factors for impairment. At June 30, 2010, we had loans totaling $7.1 million (which includes $1.8 million in nonperforming loans) which were considered to be impaired compared to $4.6 million at December 31, 2009. Loans are considered impaired if, based on current information, circumstances or events, it is probable that the Bank will not collect the scheduled payments of principal and interest when due according to the contractual terms of the loan agreement. However, treating a loan as impaired does not necessarily mean that we expect to incur a loss on that loan, and our impaired loans may include loans that currently are performing in accordance with their terms. For example, if we believe it is probable that a loan will be collected, but not according to its original agreed upon payment schedule, we may treat that loan as impaired even though we expect that the loan will be repaid or collected in full. As indicated in the table below, when we believe a loss is probable on a non-collateral dependent impaired loan, a portion of our reserve is allocated to that probable loss. If the loan is deemed to be collateral dependent, the principal balance is written down immediately, or a portion of our reserve is allocated to that probable loss, to reflect the current market valuation based on a current independent appraisal.

The following table sets forth the number and volume of loans net of previous charge-offs considered impaired and their associated reserve allocation, if any, at June 30, 2010.

Analysis of Loans Considered Impaired (Dollars in thousands)


	Number of Loans	Loan Balances Outstanding		Allocated Reserves
Non-accrual loans	7	$	4,241	$	1
Restructured loans	—		—		—

Total nonperforming loans	7	$	4,241	$	1

Other impaired loans with allocated reserves	10		2,894		586
Impaired loans without allocated reserves	—		—		—

Total impaired loans	17	$	7,135	$	587

At June 30, 2010 and December 31, 2009, nonperforming assets were approximately 1.95% and 1.61%, respectively, of the loans outstanding at such dates. The general downturn in the overall economy and its effect on several large borrowers of the Bank has contributed to the overall increase in nonperforming assets from year end 2009 to June 30, 2010.

Any loans that are classified for regulatory purposes as loss, doubtful, substandard or special mention, and that are not included as non performing loans, do not (i) represent or result from trends or uncertainties that management reasonably expects will materially impact future operating results; or (ii) represent material credits about which management has any information which causes management to have serious doubts as to the ability of such borrower to comply with the loan repayment terms.

Investment Portfolio

Our available-for-sale investment securities totaled $37.4 million at June 30, 2010, compared to $47.2 million at December 31, 2009. The overall decline was due to repayments on these securities as well as the sale in the three months ended March 31, 2010 of two securities for a pre-tax gain of $386,000 that had a recorded balance net of any unrealized gain of approximately $5.1 million on the date the securities were sold. Our held-to-maturity investment securities totaled $9.1 million at June 30, 2010 and $10.4 million at December 31, 2009. Investable funds not otherwise utilized are temporarily invested as Federal Funds sold or as interest-bearing balances at other banks, the level of which is affected by such considerations as near-term loan demand and liquidity needs. Subinvestment grade available-for-sale and held-to-maturity private label mortgage-backed securities are analyzed on a quarterly basis for impairment by utilizing an independent third party that performs an analysis of the estimated principal the Bank is expected to collect on these securities. The results of this analysis determines whether the bank records an impairment loss on these securities. As of June 30, 2010 and June 30, 2009 the analysis resulted in impairment charges of $21 thousand and $105 thousand, respectively, on the underlying securities.

Deposits

Deposits increased to $295.3 million, up 1.3% as of June 30, 2010 compared to deposits of $291.7 million at December 31, 2009. Noninterest-bearing deposits increased $4.8 million, or 23.6%, from year end 2009 to June 30, 2010, while total interest-bearing deposits decreased $1.2 million, or 0.41%, over the same period. Most of the increases in deposits were concentrated in non-interest demand, NOW, and money market and savings deposits. During this same time management began a conscious effort to reduce time deposits, particularly brokered and internet generated time deposits, by paying lower market rates on these products. This resulted in a decrease in time deposits from December 31, 2009 to June 30, 2010.

Borrowings

Short-term debt includes sweep accounts, advances from the FHLB having maturities of one year or less, Federal Funds purchased and repurchase agreements. The Company had no short-term debt at June 30, 2010 and December 31, 2009. At June 30, 2010 we had Federal Funds purchased lines of credit totaling $6.0 million. These lines are intended for short-term borrowings and are subject to restrictions limiting the frequency and terms of advances. The Company had no outstanding balances under these lines of credit at June 30, 2010.

Long-term debt consists of advances from FHLB with maturities greater than one year. Our long-term borrowings from the FHLB totaled $9.0 million on June 30, 2010 and December 31, 2009.

Junior Subordinated Debentures

In 2007, the Company issued $8.2 million of junior subordinated debentures to Oak Ridge Statutory Trust I (the “Trust”) in exchange for the proceeds of trust preferred securities issued by the Trust. The junior subordinated debentures are included in long-term debt and the Company’s equity interest in the Trust is included in other assets. Junior subordinated debentures totaled $8.2 million on June 30, 2010 and December 31, 2009.

The junior subordinated debentures pay interest quarterly at an annual rate, reset quarterly, equal to LIBOR plus 1.60%. The debentures are redeemable on June 17, 2012 or afterwards, in whole or in part, on any December 17, March 17, June 17 or September 17. Redemption is mandatory at June 17, 2037. The Bank guarantees the trust preferred securities through the combined operations of the junior subordinated debentures and other related documents. The Bank’s obligations under the guarantee are unsecured and subordinate to the senior and subordinated indebtedness of the Bank.

The trust preferred securities presently qualify as Tier 1 regulatory capital and are reported in Federal Reserve regulatory reports as a minority consolidated interest in a consolidated subsidiary. The junior subordinated debentures do not qualify as Tier 1 regulatory capital. On March 1, 2005, the Federal Reserve Board issued a final rule stating that trust preferred securities will continue to be included in Tier 1 capital, subject to stricter quantitative and qualitative standards. For bank holding companies, trust preferred securities will continue to be included in Tier 1 capital up to 25% of core capital elements (including trust preferred securities) net of goodwill less any associated deferred tax liability.

Liquidity

Liquidity refers to our continuing ability to meet deposit withdrawals, fund loan and capital expenditure commitments, maintain reserve requirements, pay operating expenses and provide funds for payment of dividends, debt service and other operational requirements. Liquidity is immediately available from five major sources: (a) cash on hand and on deposit at other banks; (b) the outstanding balance of federal funds sold; (c) lines for the purchase of federal funds from other banks; (d) lines of credit established at the FHLB, less existing advances; and (e) our investment securities portfolio. All our debt securities are of investment grade quality and, if the need arises, can promptly be liquidated on the open market or pledged as collateral for short-term borrowing.

Consistent with our general approach to liquidity management, loans and other assets of the Bank are funded primarily using a core of local deposits, proceeds from retail repurchase agreements and excess Bank capital. In the first six months of 2010, the Bank’s reliance on brokered and internet generated time deposits declined $17.9 million to $62.7 million as of June 30, 2010 due to increases in core deposits from customers within the Bank’s geographic market. Additionally, $38.7 million of the total brokered and internet generated time deposits of $62.6 million as of June 30, 2010 were time deposits to customers within the Bank’s market issued under the Certificate of Deposit Account Registry Service.

We are a member of the FHLB of Atlanta. Membership, along with a blanket collateral commitment of our one-to-four family residential mortgage loan portfolio, as well as our commercial real estate loan portfolio, provided us the ability to draw up to $19.9 million and $17.4 million of advances from the FHLB at June 30, 2010 and December 31, 2009, respectively. At June 30, 2010 and December 31, 2009, we had outstanding FHLB advances totaling $9.0 million.

As a requirement for membership, we invest in stock of the FHLB in the amount of 1.0% of our outstanding residential loans or 5.0% of our outstanding advances from the FHLB, whichever is greater. That stock is pledged as collateral for any FHLB advances drawn by us. At June 30, 2010 and December 31, 2009, we owned 13,418 shares of the FHLB’s $100 par value capital stock.

We also had unsecured federal funds lines in the aggregate amount of $6.0 million available to us at June 30, 2010 under which we can borrow funds to meet short-term liquidity needs. At June 30, 2010, we did not have any advances under these Federal Funds lines. Another source of funding available is loan participations sold to other commercial banks (in which we retain the servicing rights). As of June 30, 2010, we had $635 thousand in loan participations sold. We believe that our liquidity sources are adequate to meet our operating needs.

Capital Resources and Shareholders’ Equity

As of June 30, 2010, our total shareholders’ equity was $28.0 million (consisting of common shareholders’ equity of $21.3 million and preferred stock of $6.7 million) compared with total shareholders’ equity of $27.6 million as of December 31, 2009 (consisting of common shareholders’ equity of $21.0 million and preferred stock of $6.6 million).

Common shareholders’ equity increased by approximately $284 thousand to $21.3 million at June 30, 2010 from $21.0 million at December 31, 2009. We experienced net income in the first six months of 2010 of $654 thousand which accounted for the majority of the increase. This increase was offset by decreases due to a decrease in net unrealized gains on available-for-sale securities of $11 thousand, payment of dividends of $192 thousand on preferred shares in January and May of 2010, and accretion of preferred stock discount of $117 thousand in the first six months of 2010.

The Bank is subject to minimum capital requirements. As the following table indicates, at June 30, 2010, all capital ratios place the Bank in excess of the minimum necessary to be considered “well-capitalized” under bank regulatory guidelines.


	At June 30, 2010
	Actual Ratio		Minimum Requirement		Well-Capitalized Requirement
Total risk-based capital ratio	11.5	%	8.0	%	10.0	%
Tier 1 risk-based capital ratio	10.3	%	4.0	%	6.0	%
Leverage ratio	8.2	%	4.0	%	5.0	%

Recent Accounting Pronouncements

Please refer to Note (8) of our consolidated financial statements for a summary of recent authoritative pronouncements that could impact our accounting, reporting, and/or disclosure of financial information.

Recent Laws and Regulations

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 was signed into law on July 21, 2010. The Act is a significant piece of legislation that will have major effects on the financial services industry, including the organization, financial condition and operations of banks and bank holding companies. Management is currently evaluating the impact of the Act; however, uncertainty remains as to its operational impact, which could have a material adverse impact on the Company’s business, results of operations and financial condition. Many of the provisions of the Act are aimed at financial institutions that are significantly larger than the Company and the Bank. Notwithstanding this, there are many other provisions that the Company and the Bank are subject to and will have to comply with, including any new rules applicable to the Company and the Bank promulgated by the Bureau of Consumer Financial Protection, a new regulatory body dedicated to consumer protection. As rules and regulations are promulgated by the agencies responsible for implementing and enforcing the Act, the Company and the Bank will have to address each to ensure compliance with applicable provisions of the Act and compliance costs are expected to increase.

ITEM 3.

Quantitative and Qualitative Disclosures About Market Risk

Pursuant to Item 305(e) of Regulation S-K, the Company, as a smaller reporting company, is not required to provide the information required by this Item.

ITEM 4.

Controls and Procedures

The Company’s management, under the supervision and with the participation of the Chief Executive Officer and the Chief Financial Officer of the Company (its principal executive officer and principal financial officer, respectively) have concluded based on their evaluation as of the end of the period covered by this Report, that the Company’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in the reports filed or submitted by it under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the applicable rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports is accumulated and communicated to the Company’s management, including the Chief Executive Officer and the Chief Financial Officer of the Company, as appropriate to allow timely decisions regarding required disclosure.

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in the Exchange Act Rules 13a-15(f). A system of internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.

Under the supervision and with the participation of management, including the principal executive officer and the principal financial officer, the Company’s management has evaluated the effectiveness of its internal control over financial reporting as of June 30, 2010 based on the criteria established in a report entitled “Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission” and the interpretive guidance issued by the SEC in Release No. 34-55929. Based on this evaluation, the Company’s management has evaluated and concluded that the Company’s internal control over financial reporting was effective as of June 30, 2010.

Changes in Internal Control Over Financial Reporting.

There was no change in the Company’s internal control over financial reporting that occurred during the second quarter of 2010 that has materially affected or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part II. Other Information

ITEM 6.

EXHIBITS



15(a)	Exhibits

	Exhibit (3)(i)	Articles of Incorporation, incorporated herein by reference to Exhibit (3)(i) to the Form 8-K filed with the SEC on May 10, 2007.

	Exhibit (3)(ii)	Bylaws, incorporated herein by reference to Exhibit (3)(ii) to the Form 8-K filed with the SEC on May 10, 2007.

	Exhibit (4)(i)	Specimen Stock Certificate, incorporated herein by reference to Exhibit 4 to the Form 8-K filed with the SEC on May 10, 2007.

	Exhibit (4)(ii)	Articles of Amendment, filed with the North Carolina Department of the Secretary of State on January 28, 2009, incorporated herein by reference to Exhibit 4.1 of the Current Report on Form 8-K filed with the SEC on February 2, 2009.

	Exhibit (4)(iii)	Form of Certificate for the Fixed Rate Cumulative Perpetual Preferred Stock, Series A, incorporated herein by reference to Exhibit 4.2 of the Current Report on Form 8-K filed with the SEC on February 2, 2009.

	Exhibit (4)(iv)	Warrant for Purchase of Shares of Common Stock issued by the Company to the United States Department of the Treasury on January 30, 2009, incorporated herein by reference to Exhibit 4.3 of the Current Report on Form 8-K filed with the SEC on February 2, 2009.

	Exhibit (10)(i)	Employment Agreement with Ronald O. Black, as amended, incorporated herein by reference to Exhibit (10)(i) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(ii)	Employment Agreement with L. William Vasaly, III, as amended, incorporated herein by reference to Exhibit (10)(ii) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(iii)	Employment Agreement with Thomas W. Wayne, as amended, incorporated herein by reference to Exhibit (10)(iii) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(iv)	Outparcel Ground Lease between J.P. Monroe, L.L.C. and Bank of Oak Ridge dated June 1, 2002, incorporated herein by reference to Exhibit (10)(iv) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(v)	Ground and Building Lease between KRS of Summerfield, LLC and Bank of Oak Ridge dated September 25, 2002, incorporated herein by reference to Exhibit (10)(v) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(vi)	Ground Lease between Friendly Associates XVIII LLLP and Bank of Oak Ridge dated September 13, 2004, incorporated herein by reference to Exhibit (10)(vi) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(vii)	Bank of Oak Ridge Second Amended and Restated Director Stock Option Plan (amended March 16, 2004; approved by stockholders June 8, 2004), incorporated herein by reference to Exhibit 10(ix) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(viii)	Bank of Oak Ridge Second Amended and Restated Employee Stock Option Plan (amended March 16, 2004; approved by stockholders June 8, 2004), incorporated herein by reference to Exhibit (10)(x) to the Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(ix)	Salary Continuation Agreements with Ronald O. Black, L. William Vasaly III and Thomas W. Wayne dated January 20, 2006, incorporated herein by reference to Exhibits (10)(ix) to (10)(xi) to Form 8-K filed with the SEC on March 28, 2008.

	Exhibit (10)(x)	Amended Endorsement Split Dollar Agreement between Bank of Oak Ridge and Ronald O. Black, incorporated herein by reference to Exhibit (10)(xiii) to the Form 8-K filed with the SEC on December 21, 2007.

	Exhibit (10)(xi)	Amended Endorsement Split Dollar Agreement between Bank of Oak Ridge and L. William Vasaly III, incorporated herein by reference to Exhibit (10)(xiv) to the Form 8-K filed with the SEC on December 21, 2007.

	Exhibit (10)(xii)	Amended Endorsement Split Dollar Agreement between Bank of Oak Ridge and Thomas W. Wayne, incorporated herein by reference to Exhibit (10)(xv) to the Form 8-K filed with the SEC on December 21, 2007.

	Exhibit (10)(xiii)	Indemnification Agreement, incorporated herein by reference to Exhibit (10)(xvi) to the Form 8-K filed with the SEC on March 7, 2008.



		Exhibit (10)(xiv)		Contract for the Purchase and Sale of Real Property, incorporated herein by reference to Exhibit 99.1 to the Form 8-K filed with the SEC on January 14, 2008.

		Exhibit (10)(xv)		Oak Ridge Financial Services, Inc. Long-Term Stock Incentive Plan, incorporated herein by reference to Exhibit (10)(xiii) to the Form 10-QSB filed with the SEC on May 15, 2007.

		Exhibit (10)(xvi)		Bank of Oak Ridge 2009 Semi-Annual Incentive Plan, incorporated herein by reference to Exhibit (10)(xvi) to the Form 10-K filed with the SEC on March 31, 2010.

		Exhibit (10)(xvii)		Letter Agreement, dated January 30, 2009, between the Company and the United States Department of the Treasury, with respect to the issuance and sale of the Fixed Rate Cumulative Perpetual Preferred Stock, Series A and the Warrant, incorporated herein by reference to Exhibit 10.1 of the Current Report on Form 8-K filed with the SEC on February 2, 2009.

		Exhibit (10)(xviii)		Form of Employment Agreement Amendment, dated January 30, 2009 among the Company, the Bank and the senior executive officers, incorporated herein by reference to Exhibit 10.2 of the Current Report on Form 8-K filed with the SEC on February 2, 2009.

		Exhibit (14)		Code of Ethics for Senior Officers Policy incorporated herein by reference to Exhibit 14 to the Form 8-K filed with the SEC on March 28, 2008.

		Exhibit (31.1)		Certification of Ronald O. Black.

		Exhibit (31.2)		Certification of Thomas W. Wayne.

		Exhibit (32)		Certificate of Periodic Financial Report Pursuant to 18 U.S.C. Section 1350.

Oak Ridge Financial Services, Inc.

Signatures

In accordance with the requirements of the Exchange Act, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


		Oak Ridge Financial Services, Inc.
		(Registrant)

Date: August 13, 2010		/s/ Ronald O. Black
		Ronald O. Black
		President and Chief Executive Officer
		(Duly Authorized Representative)

Date: August 13, 2010		/s/ Thomas W. Wayne
		Thomas W. Wayne
		Chief Financial Officer
		(Duly Authorized Representative)