UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 000-51104

CommerceFirst Bancorp, Inc.

(Exact Name of Registrant as Specified in its Charter)

Maryland		52-2180744
(State or Other Jurisdiction		(I.R.S. Employer Identification No.)
of Incorporation or Organization)

1804 West Street, Suite 200, Annapolis, MD 21401
(Address of Principal Executive Offices)

410-280-6695
(Registrant’s Telephone Number, Including Area Code)

N/A
(Former Name, Former Address and Former Fiscal Year, If Changed Since Last Report)

Indicate by check 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 þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, 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 o No o

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 definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o		Accelerated filer o		Non-accelerated filer o		Smaller reporting company þ

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

As of May 9, 2011 the number of outstanding shares of registrant’s common stock, par value $0.01 per share was: 1,820,548

 

 

CommerceFirst Bancorp, Inc.

FORM 10-Q

INDEX

		Page(s)
PART I — FINANCIAL INFORMATION
Item 1 — Financial Statements
Consolidated Statements of Financial Condition — March 31, 2011 (Unaudited) and December 31, 2010 (Audited)			3
FOR PERIODS ENDED MARCH 31, 2011 and 2010:
Consolidated Statements of Operations — Three months (Unaudited)			4
Consolidated Statements of Stockholders’ Equity — Three months (Unaudited)			5
Consolidated Statements of Cash Flows — Three months (Unaudited)			6
Notes to Consolidated Financial Statements			7-10
Item 2 — Management’s Discussion and Analysis			10-27
Item 3 — Quantitative and Qualitative Disclosures About Market Risk			28
Item 4 — Controls and Procedures			28
PART II — OTHER INFORMATION
Item 1 — Legal Proceedings			28
Item 1A Risk Factors			28
Item 2 — Unregistered Sales of Equity Securities and Use of Proceeds			28
Item 3 — Defaults Upon Senior Securities			28
Item 4 — [Removed and Reserved]			28
Item 5 — Other Information			28
Item 6 — Exhibits			29
SIGNATURES			30
Exhibit 31(a)
Exhibit 31(b)
Exhibit 32(a)
Exhibit 32(b)

CommerceFirst Bancorp, Inc. and Subsidiary

March 31, 2011 and December 31, 2010
(Dollars in thousands except per share data)

		March 31,				December 31,
		2011				2010
		(Unaudited)				(Audited)
ASSETS
Cash and due from banks		$	2,860			$	1,437
Interest bearing deposits			12,519				12,289
Cash and cash equivalents			15,379				13,726
Investments in restricted stocks, at cost			527				527
Loans receivable			187,661				184,883
Allowance for loan losses			(3,589	)			(3,174	)
Net loans receivable			184,072				181,709
Premises and equipment, net			507				556
Accrued interest receivable			761				750
Deferred income taxes			1,413				1,133
Other real estate owned			2,799				3,324
Other assets			1,088				1,399
Total Assets		$	206,546			$	203,124
LIABILITIES
Non-interest bearing deposits		$	25,442			$	23,760
Interest bearing deposits			157,227				156,350
Total deposits			182,669				180,110
Accrued interest payable			117				106
Other liabilities			947				543
Total Liabilities			183,733				180,759
STOCKHOLDERS’ EQUITY
Common stock — $.01 par value; authorized 4,000,000 shares
Issued and outstanding: 1,820,548 shares at March 31, 2011 and at December 31, 2010			18				18
Additional paid-in capital			17,853				17,853
Retained earnings			4,942				4,494
Total Stockholders’ Equity			22,813				22,365
Total Liabilities and Stockholders’ Equity		$	206,546			$	203,124

The accompanying notes are an integral part of these consolidated financial statements.

CommerceFirst Bancorp, Inc. and Subsidiary

		March 31,				March 31,
		2011				2010
Interest income:
Interest and fees on loans		$	3,057			$	3,124
Investment in stocks			7				7
Interest bearing deposits			13				9
Total interest income			3,077				3,140
Interest expense:
Deposits			568				886
Total interest expense			568				886
Net interest income			2,509				2,254
Less provision for loan losses			681				447
			1,828				1,807
Non-interest income:
Gain on sale of SBA loans			209				225
Gain on sale of other real estate owned			43				—
Service charges and other income			149				121
Total non-interest income			401				346
Non-interest expenses:
Compensation and benefits			772				721
Legal and professional			65				55
Rent and occupancy			145				139
Marketing and business development			18				22
FDIC insurance			89				76
Data processing			37				36
Support services			47				47
Communications			33				32
Depreciation and amortization			52				59
Other			242				89
Total non-interest expenses			1,500				1,276
Income before income taxes			729				877
Income tax expense			281				349
Net income and total comprehensive income		$	448			$	528
Basic and diluted earnings per share		$	0.25			$	0.29

The accompanying notes are an integral part of these consolidated financial statements.

CommerceFirst Bancorp, Inc. and Subsidiary

For the Three Months Ended March 31, 2011 and 2010
(Dollars in thousands)
(Unaudited)

						Additional
		Common				Paid-in				Retained
		Stock				Capital				Earnings				Total
Balance December 31, 2009		$	18			$	17,853			$	3,071			$	20,942
Net income — March 31, 2010											528				528
Balance March 31, 2010		$	18			$	17,853			$	3,599			$	21,470
Balance December 31, 2010		$	18			$	17,853			$	4,494			$	22,365
Net income — March 31, 2011											448				448
Balance March 31, 2011		$	18			$	17,853			$	4,942			$	22,813

The accompanying notes are an integral part of these consolidated financial statements.

CommerceFirst Bancorp, Inc. and Subsidiary

Consolidated Statement of Cash Flows

		March 31,				March 31,
		2011				2010
CASH FLOWS FROM OPERATING ACTIVITIES
Net income		$	448			$	528
Adjustments to reconcile net income to net cash provided by operations:
Depreciation and amortization			52				59
Gain on sales of SBA loans			(209	)			(225	)
Gain on sales of other real estate owned			(43	)			—
Provision for loan losses			681				447
Provision for losses on unfunded commitments			—				2
Valuation allowance on other real estate owned			75				—
Deferred income taxes			(280	)			39
Change in assets and liabilities:
Increase in accrued interest receivable			(11	)			(35	)
Decrease in other assets			236				92
Increase (decrease) in accrued interest payable			11				(4	)
Increase in other liabilities			404				346
Net cash provided by operating activities			1,364				1,249
CASH FLOWS FROM INVESTING ACTIVITIES
Increase in loans, net			(5,171	)			(3,358	)
Proceeds from sale of SBA loans			2,336				3,765
Proceeds from sale of other real estate owned			568				—
Purchase of premises and equipment			(3	)			(19	)
Net cash (used by) provided by investing activities			(2,270	)			388
CASH FLOWS FROM FINANCING ACTIVITIES
Increase in non-interest bearing deposits, net			1,682				2,643
Net increase in other deposits			877				9,790
Net cash provided by financing activities			2,559				12,433
Net increase in cash and cash equivalents			1,653				14,070
Cash and cash equivalents at beginning of period			13,726				10,488
Cash and cash equivalents at end of period		$	15,379			$	24,558
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid		$	557			$	890
Income taxes paid		$	—			$	—
Transfer of loans to real estate owned		$	—			$	653

The accompanying notes are an integral part of these consolidated financial statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. The Company and its Significant Accounting Policies

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not contain all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete consolidated financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.

The financial data at December 31, 2010 are derived from audited consolidated financial statements that are included in the Company’s Annual Report for the year ended December 31, 2010. The financial data at March 31, 2011 and 2010 are derived from unaudited consolidated financial statements. Interim results are not necessarily indicative of results for the full year.

The consolidated financial statements include the accounts of CommerceFirst Bancorp, Inc. (the “Company”) and its subsidiary, CommerceFirst Bank (the “Bank”). Inter-company balances and transactions have been eliminated. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Cash and cash equivalents in the statement of cash flows include cash on hand, non-interest bearing amounts due from correspondent banks, interest and non-interest bearing deposits due from the Federal Reserve, certificates of deposit with maturities of less than one year and Federal funds sold.

Certain prior period amounts have been reclassified to conform to the current period’s method of presentation.

Note 2. Fair value

ASC Section 820 — Fair Value Measurements and Disclosure defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. Topic 820 establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. The hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. These inputs are summarized in three broad levels as follows:

		Level 1:		Quoted prices in active exchange markets for identical assets or liabilities; also includes certain U.S. Treasury and other U.S. government and agency securities actively traded in over-the-counter markets.
		Level 2:		Observable inputs other than Level 1 including quoted prices for similar assets or liabilities, quoted prices in less active markets, or other observable inputs that can be corroborated by observable market data; also includes derivative contracts whose value is determined using a pricing model with observable market inputs or can be derived principally from or corroborated by observable market data. This category generally includes certain U.S. government and agency securities, corporate debt securities, derivative instruments, and residential mortgage loans held for sale.
		Level 3:		Unobservable inputs supported by little or no market activity for financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation; also includes observable inputs for single dealer nonbinding quotes not corroborated by observable market data. This category generally includes certain private equity investments, retained interests from securitizations, and certain collateralized debt obligations.

The Company’s bond holdings in the investment securities portfolio, if any, are the only asset or liability subject to fair value measurement on a recurring basis. No financial assets or liabilities are valued on a recurring basis under Level 1or Level 2 inputs at March 31, 2011 or December 31, 2010. The Company has financial and non-financial assets measured by fair value measurements on a non-recurring basis during 2011. At March 31, 2011, these assets include $7.1 million of non-accrual loans ($5.2 million after specific reserves) and other real estate owned of $2.8 million all of which are valued under Level 3 inputs.

The changes in the assets subject to fair value measurements are summarized below by Level:

		Level 1 and
In thousands		Level 2				Level 3
December 31, 2010:
Loans		$	—			$	7,283
Other real estate owned			—				3,324
Total December 31, 2010			—				10,607
Activity:
Loans:
New loans measured at fair value			—				753
Payments and other loan reductions			—				(618	)
Loans charged-off			—				(275	)
Net change in loans			—				(140	)
Other real estate owned:
Sales of other real estate owned							(450	)
Provision for valuation reduction			—				(75	)
			—				(525	)
March 31, 2011:
Loans			—				7,143
Other real estate owned			—				2,799
Total March 31, 2011		$	—			$	9,942

The estimated fair values of the Company’s financial instruments at March 31, 2011 and December 31, 2010 are summarized below. The fair values of a significant portion of these financial instruments are estimates derived using present value techniques and may not be indicative of the net realizable or liquidation values. Also, the calculation of estimated fair values is based on market conditions at a specific point in time and may not reflect current or future fair values.

		March 31, 2011								December 31, 2010
		Carrying				Fair				Carrying				Fair
In thousands		Amount				Value				Amount				Value
Financial assets:
Cash and due from banks		$	2,860			$	2,860			$	1,437			$	1,437
Interest bearing deposits			12,519				12,519				12,289				12,289
Investments in restricted stock			527				527				527				527
Loans, net			184,072				193,480				181,709				191,353
Accrued interest receivable			761				761				750				750
Financial liabilities:
Non-interest bearing deposits		$	25,442			$	25,442			$	23,760			$	23,760
Interest bearing deposits			157,227				158,609				156,350				157,228
Accrued interest payable			117				117				106				106
Off-balance sheet commitments			—				—				—				—

Fair values are based on quoted market prices for similar instruments or estimated using discounted cash flows. The discounts used are estimated using comparable market rates for similar types of instruments adjusted to be commensurate with the credit risk, overhead costs and optionality of such instruments.

The fair value of cash and due from banks, interest bearing deposits, federal funds sold, investments in restricted stocks and accrued interest receivable are equal to the carrying amounts. The fair values of investment securities are determined using market quotations. The fair value of loans receivable is estimated using discounted cash flow analysis.

The fair value of non-interest bearing deposits, interest-bearing checking, savings, and money market deposit accounts, securities sold under agreements to repurchase, and accrued interest payable are equal to the carrying amounts. The fair value of fixed maturity time deposits is estimated using discounted cash flow analysis.

Note 3. Net Income per Common Share

Basic earnings per share of common stock are computed by dividing net earnings by the weighted average number of common shares outstanding during the period. Diluted earnings per share are calculated by including the average dilutive common equivalents outstanding during the period. Dilutive common equivalent shares consist of stock options and warrants, calculated using the treasury stock method.

		Three Months
		Ended March 31,
In thousands except for per share data		2011				2010
Weighted average shares outstanding			1,820,548				1,820,548
Common stock equivalents			—				—
Average common shares and equivalents			1,820,548				1,820,548
Net income (in thousands)		$	448			$	528
Basic and diluted earnings per share		$	0.25			$	0.29

All of the outstanding warrants and options were excluded from the calculation of diluted income per share in 2010 because they were anti-dilutive. All of the warrants and options expired in 2010.

Note 4. Related Party Transactions

The Company paid $30 thousand during the first three months of 2011 for legal services to a firm of which a Director of the Company is a principal. The Company also paid $11 thousand during the three months ended March 31, 2011 for computer related services to firm of which a Director is a principal. The above transactions have been consummated on terms equivalent to those that prevail in arms length transactions.

Executive officers, directors and their affiliated interests enter into loan transactions with the Company in the ordinary course of business. These loans are made on the same terms, including interest rates and collateral, as those prevailing at the time for comparable loans with unrelated borrowers. They do not involve more than normal risk of collectability or present other unfavorable terms. At March 31, 2011 the amounts of such loans outstanding were $2.8 million.

Deposit balances of executive officers, directors and their affiliated interests totaled $12.4 million at March 31, 2011.

Note 5. Commitments and contingencies

The Company is a party to financial instruments in the normal course of business to meet the financing needs of its customers. These financial instruments typically include commitments to extend credit and standby letters of credit, which involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated financial statements. Outstanding commitments as of March 31, 2011 are as follows:

In millions
Loan commitments		$	5.2
Unused lines of credit		$	34.1
Letters of Credit		$	1.3

Note 6. Recent Relevant Accounting Pronouncements

In July 2010, the FASB issued ASU No. 2010-20, Receivables (Topic 310), Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. The main objective of this ASU is to provide financial statement users with greater transparency about an entity’s allowance for credit losses and the credit quality of its financing receivables. The ASU requires that entities provide additional information to assist financial statement users in assessing their credit risk exposures and evaluating the adequacy of its allowance for credit losses. For the Company, the disclosures as of the end of a reporting period were required for the annual reporting periods ended December 31, 2010. Required disclosures about activity that occurs during a reporting period are effective for interim and annual reporting periods beginning January 1, 2011. The adoption of this ASU resulted in additional disclosures in the Company’s financial statements regarding its loan portfolio and related allowance for loan losses but does not change the accounting for loans or the allowance. The Company has complied with the reporting requirements as of March 31, 2011.

The FASB has issued several exposure drafts which, if adopted, would significantly alter the Company’s (and all other financial institutions’) method of accounting for, and reporting, its financial assets and some liabilities from a historical cost method to a fair value method of accounting as well as the reported amount of net interest income. Also, the FASB has issued an exposure draft regarding a change in the accounting for leases. Under this exposure draft, the total amount of “lease rights” and total amount of future payments required under all leases would be reflected on the balance sheets of all entities as assets and debt. If the changes under discussion in either of these exposure drafts are adopted, the financial statements of the Company could be materially impacted as to the amounts of recorded assets, liabilities, capital, net interest income, interest expense, depreciation expense, rent expense and net income. The Company has not determined the extent of the possible changes at this time. The exposure drafts are in different stages of review, approval and possible adoption.

In April 2011, the FASB issued ASU No. 2011-02, Receivable (Topic 310), A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring. The main objective of the ASU is to clarify a creditor’s evaluation of whether in modifying a loan, it has granted a concession in circumstances that qualify the loan as a Troubled Debt Restructured (TDR) loan. These loans are subject to various accounting and disclosure requirements. The ASU is effective for the first interim or annual period beginning on or after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. Certain disclosures are required for loans considered as TDR loans resulting from the application of the ASU that were not considered TDR under prior guidance. The Company has not yet determined the effect, if any, of the ASU on its financial statements; however, it will comply with the new guidance as required.

Forward-Looking Statements

Certain information contained in this discussion may include “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements are generally identified by phrases such as “the Company expects,” “the Company believes” or words of similar import. Such forward-looking statements involve known and unknown risks including, but not limited to, changes in general economic and business conditions, interest rate fluctuations, competition within and from outside the banking industry, new products and services in the banking industry, risk inherent in making loans such as repayment risks and fluctuating collateral values, problems with technology utilized by the Company, changing trends in customer profiles and changes in laws, accounting standards and regulations applicable to the Company. Although the Company believes that its expectations with respect to the forward-looking statements are based upon reliable assumptions within the bounds of its knowledge of its business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. Readers are cautioned against placing undue reliance on any such forward-looking statements. The Company’s past results are not necessarily indicative of future performance. Please refer to the “Risk Factors” section of the Company’s Annual Report on Form 10-K for the year ended December 31, 2010, and other periodic reports filed with the Securities and Exchange Commission, for a discussion of various factors which may affect our performance.

General

CommerceFirst Bancorp, Inc. (the “Company”) is the bank holding company for CommerceFirst Bank, a Maryland chartered commercial bank headquartered in Annapolis, Maryland (the “Bank”). The Bank was capitalized, became a wholly owned subsidiary of the Company and commenced operations on June 29, 2000. The Company’s common stock trades on the NASDAQ Capital Market under the symbol “CMFB”. The Company maintains five banking offices in Anne Arundel, Howard and Prince George’s counties in central Maryland. The Company focuses on providing commercial banking services to small and medium sized business in its market areas.

The Company assets increased modestly at March 31, 2011 from December 31, 2010 with increases in cash and cash equivalents and loans receivable. Earnings declined as the increase in the provision for loan losses and loan collections expenses offset improvements in net interest income. The provision for loan losses continues to remain relatively high in recognition of the effect of uncertain economic conditions on the Company’s borrowers and collateral values as well as loan charge-offs. Key measurements and events for the period include the following:

	•		The Company’s net income was $448 thousand during the three months ended March 31, 2011 as compared to net income of $528 thousand for the three months ended March 31, 2010. The $80 thousand decline in net income is primarily attributable to increases in the provision for loan losses, an established valuation allowance for other real estate owned and increased loan collection expenses.
	•		Net interest income, the Company’s main source of income, increased by 11.3% from $2.3 million during the three months ended March 31, 2010 to $2.5 million for the three months ended March 31, 2011.
	•		Total assets increased by 1.7% from $203 million at December 31, 2010 to $206 million at March 31, 2011.
	•		Net loans outstanding increased by 1.3% from $182 million at December 31, 2010 to $184 million as of March 31, 2011.
	•		Deposits increased by 1.4% from $180 million at December 31, 2010 to $183 million at March 31, 2011.
	•		Non-interest income increased by 15.9% from $346 thousand for the three months ended March 31, 2010 to $401 thousand for the three months ended March 31, 2011.
	•		Non-interest expenses increased by 17.6% from $1.3 million for the three months ended March 31, 2010 to $1.5 million for the three months ended March 31, 2011.

A discussion of the factors leading to these changes can be found in the discussion below.

Critical Accounting Policies

The Company’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow general practices within the industry in which it operates. Application of these principles requires management to make estimates, assumptions and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions and judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment write-down or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets and liabilities are based either on quoted market prices or are provided by other third-party sources, when available.

The most significant accounting policies followed by CommerceFirst Bancorp, Inc. are presented in Note 1 to the Company’s audited consolidated financial statements incorporated by reference in its Annual Report on Form 10-K for the year ended December 31, 2010. These policies, along with the disclosures presented in the other financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions and estimates underlying those amounts, management has identified the determination of the allowance for loan losses as the accounting area that requires the most subjective or complex judgments, and as such could be most subject to revision as new information becomes available.

The Company believes it has developed appropriate policies and procedures for assessing the adequacy of the allowance for loan losses, recognizing that this process requires a number of assumptions and estimates with respect to its loan portfolio. These procedures include identifying and assessing possible impaired loans. The Company’s assessments may be affected in future periods by changes in economic conditions, the impact of regulatory examinations and the discovery of information with respect to borrowers that is not known to management at the time of the issuance of the consolidated financial statements.

RESULTS OF OPERATIONS

General. The Company reported net income of $448 thousand for the three months ended March 31, 2011 as compared to net income of $528 thousand for the three month period ended March 31, 2010. Net earnings declined during 2011 as compared to 2010 in spite of the increase in net interest margin because of an increase in the provision for loan losses of $234 thousand, expensed valuation allowance for declines in other real estate owned of $75 thousand and loan collection expenses of $57 thousand. Net interest margin increased primarily as the result of the reduction in the cost of deposits. The provision for loan losses was $681 thousand during 2011 as compared to $447 thousand in 2010, an increase of $234 thousand, or 52.4%. The Company continues to experience the detrimental effects of the weakened economy on its loan customers which effects are recognized through the Company’s provision for loan losses and loan charge-offs. The amount of non-accrual loans decreased by $140 thousand, or 1.9%, at March 31, 2011 as compared to December 31, 2010.

Net interest income increased in 2011 as compared to 2010 by $255 thousand, or 11.3%. This increase resulted primarily from the reduction in the cost of deposits. During 2010 a significant amount of high interest rate, longer term certificates of deposit matured and were either re-priced at lower rates or replaced with lower rate accounts resulting in decreases in costs of funds, increases in net interest income, net interest margin and net interest spread. However, the amount of such certificates available to be re-priced in future quarters is minimal.

Return on Average Assets and Average Equity. The following table shows the return on average assets and average equity for the period shown.

		Three Months Ended								Year ended
		March 31,								December 31,
		2011				2010				2010
Return on Average Equity			7.87	%			9.89	%			8.61	%
Return on Average Earning Assets			0.91	%			1.06	%			0.94	%
Ratio of Average Equity to Average Assets			11.19	%			10.36	%			10.62	%

Net Interest Income and Net Interest Margin. Net interest income is the amount by which interest earned on assets exceeds the interest paid on interest-bearing liabilities. The Company’s principal interest earning assets are loans to businesses. Interest-bearing liabilities consist primarily of savings accounts, money market accounts and certificates of deposit. Generally, changes in net interest income are measured by net interest rate spread and net interest margin. Net interest rate spread is equal to the difference between the average rate earned on interest earning assets and the average rate incurred on interest-bearing liabilities. Net interest margin represents the difference between interest income (including net loan fees earned) and interest expense calculated as a percentage of average earning assets.

Total interest income decreased by $63 thousand or 2.0% to $3.1 million for the three month period ended March 31, 2011 as compared to the same period in 2010. This decrease in interest income was primarily attributable to the decline in the yield on the loans from 6.88% in 2010 to 6.66% in 2011. Further, interest income declined because of the $2.0 million decrease in average earning assets during 2011 as compared to. Interest income was adversely affected by the 6 basis point decline in the yield of the average earning assets from 6.37% in 2010 to 6.31% in 2011.

Interest expense decreased by $318 thousand or 35.9% to $568 thousand for the three months ended March 31, 2011 as compared to $886 thousand during the same three months of 2010. This decrease was primarily attributable to the 72 basis point decrease in the cost of funds from 2.2% during the first three months of 2010 to 1.5% during the first three months of 2011. Also contributing to the reduction in the cost of funds was $8.1 million decrease in average interest bearing liabilities during 2011 as compared to 2010.

The net interest income for the three month period ended March 31, 2011 was $2.5 million as compared to $2.3 million for the same period in 2010. Net interest income increased primarily because of the reduced cost of funds during the three months ended March 31, 2011 as compared to the three months ended March 31, 2010.

The following table shows the average balances and average rates earned or paid on of the various categories of the Company’s assets and liabilities for the three month period ended March 31 of each year. Nonperforming loans are included in average loan balances in the following table:

		2011												2010												2009
THREE MONTHS		Average								Yields/				Average								Yields/				Average								Yields/
In thousands		Balance				Interest				Rates				Balance				Interest				Rates				Balance				Interest				Rates
Assets
Securities (1)		$	527			$	7				5.39	%		$	527			$	7				5.39	%		$	3,539			$	39				4.47	%
Loans, net of unearned income (2)			186,284				3,057				6.66	%			184,219				3,124				6.88	%			156,328				2,710				7.03	%
Interest-bearing deposits in other banks			11,036				13				0.48	%			14,927				9				0.24	%			1,966				2				0.41	%
Federal funds sold			—				—				—				129				—				0.19	%			3,277				3				0.37	%
Total interest-earning assets			197,847				3,077				6.31	%			199,802				3,140				6.37	%			165,984				2,754				6.76	%
Less allowance for loan losses			(3,319	)											(2,428	)											(2,035	)
Non interest earning assets			9,127												8,631												6,909
Total assets		$	203,655											$	206,005											$	169,984
Liabilities & Stockholders’ Equity
Interest-bearing deposits
Interest bearing demand deposits		$	766			$	—				0.05	%		$	712			$	—				0.05	%		$	1,842			$	—				0.00	%
Money market deposit accounts			8,628				8				0.38	%			8,453				9				0.43	%			18,093				26				0.58	%
Savings accounts			23,780				67				1.14	%			12,036				44				1.48	%			175				—				—
Certificates of deposit			122,695				493				1.63	%			142,729				833				2.37	%			109,954				1,138				4.20	%
Total interest-bearing liabilities			155,869				568				1.48	%			163,930				886				2.19	%			130,064				1,164				3.63	%
Demand deposits and other liabilities			25,005												20,727												19,543
Total liabilities			180,874												184,657												149,607
Stockholders’ equity			22,781												21,348												20,377
Total liabilities and stockholders’ equity		$	203,655											$	206,005											$	169,984
Interest rate spread											4.83	%											4.18	%											3.13	%
Net interest income and margin						$	2,509				5.14	%						$	2,254				4.58	%						$	1,590				3.91	%

(1)		Yields on securities are calculated based on amortized cost.
(2)		Loan balances include loans on nonaccrual

Net interest margin was 5.14% in the first three months of 2011, as compared to 4.58% in the comparable period in 2010. Interest spread was 4.83% in the first three months of 2011, as compared to the 4.18% in the first three months of 2010 reflecting the greater reduction in the cost of interest bearing funds as compared to the reduction of the earnings rates of interest earning assets. Absent a reduction in market interest rates, the Company does not anticipate continuing significant reductions in the cost of its interest bearing funds as a majority of the higher costing funds have been re-priced to lower levels.

The following table sets forth certain information regarding changes in interest income and interest expense of the Company. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (i) changes in volume (change in volume of the asset multiplied by the prior year’s rate) and (ii) changes in rates (change in rate multiplied by the current year’s volume).

		March 31, 2011 vs. 2010												March 31, 2010 vs. 2009
		Increase (Decrease)												Increase (Decrease)
In thousands		Volume				Rate				Total				Volume				Rate				Total
Interest-Earning Assets:
Federal funds sold		$	—			$	—			$	—			$	(3	)		$	—			$	(3	)
Interest bearing deposits			(2	)			6				4				14				(7	)			7
Investment portfolio			—				—				—				(33	)			1				(32	)
Loans receivable			35				(102	)			(67	)			484				(70	)			414
Net Change in Interest Income			33				(96	)			(63	)			462				(76	)			386
Interest Bearing Liabilities:
Interest bearing deposits			(44	)			(274	)			(318	)			318				(596	)			(278	)
Net Change in Interest Expense			(44	)			(274	)			(318	)			318				(596	)			(278	)
Change in Net Interest Income		$	77			$	178			$	255			$	144			$	520			$	664

Provision for Loan Losses. The provision for loan losses represents the amount charged against earnings to increase the allowance for loan losses to the level deemed appropriate by management. The provision for loan losses and the allowance for loan losses are based on management’s ongoing assessment of the Company’s credit exposure and consideration of certain other relevant factors. The provision for loan losses was $681 thousand the three months ended March 31, 2011 as compared to $447 thousand for the three months ended March 31, 2010. The Company has increased its provision for loan losses to address identified loan concerns and in recognition of the detrimental effect of the weakened economy. The allowance is comprised of specific and general allowance amounts.

Non-Interest Income. Non-interest income principally consists of gains from the sale of the guaranteed portion of Small Business Administration loans and from deposit account services charges. For the three months ended March 31, 2011, gains on sales of the guaranteed portion of SBA loans was $209 thousand whereas gains on sales of SBA loans amounted to $225 thousand during the first three months of 2010. Generally, the Company desires to sell the guaranteed portion of most additional SBA loans resulting in a continuing stream of income that may vary significantly from quarter to quarter, depending in part upon the volume of loans actually sold. Deposit account service charges and other income amounted to $149 thousand during the three months ended March 31, 2011 as compared to $121 thousand for the same period in 2010, reflecting an increase in the number of accounts subject to service charges on such deposit accounts. Also included in this increase was the increase in net rental income from rental of other real estate owned properties.

Non-Interest Expense. Total non-interest expenses increased by $224 thousand during the three month period ended March 31, 2011 as compared to the same period in 2010, a 17.6% increase. The 2011 expenses reflect $75 thousand of provision for declining value of other real estate owned; no such provision was expensed in 2010. Loan collection expenses increased by $41 thousand from $16 thousand during 2010 to $57 thousand in 2011 resulting from increased loan collection efforts.

Income Tax Expense. During the three months ended March 31, 2011, the Company recorded an income tax expense of $281 thousand as compared to a $349 thousand expense during the same period in 2010. The income tax expense was 38.6% of income before taxes in 2011 and 39.8% of income before taxes in 2010.

FINANCIAL CONDITION.

General. The Company’s assets at March 31, 2011 were $206.5 million, an increase of $3.4 million or 1.7%, from December 31, 2010. The gross loans totaled $187.7 million at March 31, 2011 and are comprised of real estate loans of $132.7 million, an increase of $2.1 million, or 1.6%, from December 31, 2010 and commercial loans of $52.3 million, an increase of $.7 million, or 1.3% from December 31, 2010. The changes noted above reflect the effect of reclassifying approximately $9.5 million of commercial loans to real estate loans during the second quarter of 2010. The reclassification resulted from a review by the Company of the risk profile of the loan portfolio. The majority of the reclassified loans are to entities whose cash flow is directly or indirectly significantly dependent upon the sale, refinance, or management of real estate assets or collections of the entities’ financing of real estate. None of these loans were on non-accrual or classified as substandard at the time of reclassification. At March 31, 2011, deposits totaled $182.7 million, an increase of $2.6 million, or 1.4%, from December 31, 2010. Deposits at March 31, 2011 are comprised primarily of certificates of deposit of $124.6 million, NOW and Money Market accounts of $8.9 million, savings accounts of $23.8 million and noninterest bearing deposits of $25.4 million.

Loan Portfolio. The loan portfolio is the largest component of earning assets and accounts for the greatest portion of total interest income. At March 31, 2011, net loans were $184.1 million, a 1.3% increase from the $181.7 million in loans outstanding at December 31, 2010. Generally, loans are internally generated but the Company does periodically purchase loan participations from other local community banks. Lending activity is generally confined to the Company’s immediate market areas. The $2.4 million increase in loans is net of the sales of SBA guaranteed portions of loans in the amount of $2.1 million during the first quarter of 2011. Without these sales, loan balances would have increased by $4.5 million. The Company is continuing its efforts to attract quality credits with no dilution of credit underwriting standards. The current economic conditions have reduced the number of loan requests as well as the number of applicants that meet the Company’s underwriting standards.

The percentage of total loans comprised of commercial real estate loans has increased as the Company has concentrated on this type of lending. The majority of these loans are secured by real property that is occupied by the borrowers’ businesses. The Company has approximately $0.9 million of acquisition and construction loans secured by residential building lots. The Company does not engage in foreign lending activities. Loans secured by residential real estate are loans to investors for commercial purposes. The Bank does not lend funds to consumers. The following table presents the composition of the loan portfolio by type of loan at the dates indicated.

Loans receivable, net is comprised of the following:

		March 31, 2011								March 31, 2010								December 31, 2010
						Percentage								Percentage								Percentage
(In thousands)		Balance				of Loans				Balance				of Loans				Balance				of Loans
Commercial and Industrial loans		$	45,956				24.5	%		$	59,187				34.5	%		$	44,582				24.1	%
SBA loans			7,071				3.8	%			6,933				2.4	%			7,742				4.2	%
Real estate loans:
Owner occupied			85,296				45.4	%			72,918				39.5	%			85,633				46.3	%
Non owner occupied			49,449				26.3	%			45,897				23.6	%			47,040				25.4	%
Total real estate loans			134,745				71.7	%			118,815				63.1	%			132,673				71.7	%
			187,772				100.0	%			184,935				100.0	%			184,997				100.0	%
Unearned loan fees, net			(111	)							(86	)							(114	)
Allowance for loan losses			(3,589	)							(2,376	)							(3,174	)
		$	184,072							$	182,473							$	181,709

Note:		The loan amounts and percentages for March 31, 2010 above do not reflect the effect of reclassifying approximately $9.5 million of commercial and industrial loans to real estate loans during the second quarter of 2010.

Real estate loans are secured by residential and commercial properties as follows:

(In thousands)		March 31, 2011				March 31, 2010				December 31, 2010
Real estate loans secured by:
Residential real estate		$	24,908			$	22,747			$	24,307
Commercial real estate			109,837				96,068				108,366
Total real estate loans		$	134,745			$	118,815			$	132,673

None of the loans secured by residential real estate are owner occupied properties.

The following table shows the interest rate sensitivity of the loan portfolio at March 31, 2011. Demand loans, loans without a stated maturity and overdrafts are reported as re-pricing in one year or less. Floating rate loans are reported to reflect the period until re-pricing.

		Loan Re-pricing as of March 31, 2011
		1 year								After
In thousands		or less				1-5 years				5 years				Total
Loans with:
Fixed interest rates		$	13,172			$	38,123			$	938			$	52,233
Floating and adjustable interest rates			64,227				71,312				—				135,539
Total loans receivable		$	77,399			$	109,435			$	938			$	187,772

Allowance for loan losses. The adequacy of the allowance for loan losses is evaluated based upon loan categories except for loans rated substandard, doubtful or loss, which are evaluated separately and assigned loss amounts based upon the evaluation. Loss ratios are applied to each category of loan to determine estimated loss amounts. Categories of loans are identified as commercial, SBA and mortgage loans. Loss ratios are determined based upon historical losses incurred adjusted for the effect of current economic conditions, any industry concentration or identified weakness in an industry, credit management and underwriting policy changes and secured versus unsecured nature of the loan category. At March 31, 2011, the range of the loss ratios used to determine estimated losses by loan category were: commercial loans — 1.1%; SBA loans (unguaranteed portion) — 6.9% and real estate loans- 0.2% to 1.5%. These loss ratios are approximately the same as those ratios applied at December 31, 2010. Additional losses are estimated resulting from additional identified risks factors, such as loans with underwriting exceptions, the level and direction of payment delinquencies and the level of large loans. Not all of these additional loss estimates are allocated to the separate loan categories.

The Company monitors its loan portfolio for indications of weaknesses through the review of borrowers’ financial condition, cash flows, loan payment delinquencies, economic factors occurring in borrowers’ business sectors and other information which may come to the Company through its contacts in the market place. The determination of the effect of the weaknesses noted on the repayment of the loans is an ongoing process as to each borrower. The Company may set aside specific loss reserves during this process in amounts determined on subjective bases until such time as the collectability of the loan from the borrowers’ primary repayment source(s) is in doubt. During this time, secondary and tertiary repayment sources, including liquidation of collateral, are evaluated which may result in additional specific loss reserves being established. Independent or internal appraisals and evaluations are performed to determine potential recovery amounts, or range of amounts, from the loan collateral and other payment sources. Collateral values are subject to change depending on market factors, collateral condition and method and timing of liquidation efforts. Loans, or portions of loans, for which the Company does not expect to obtain repayment are charged-off. In most cases, the Company has established specific reserves for the amount of the loan’s loss prior to the point of charge-off.

The adequacy of the allowance for loan losses is also reviewed at least quarterly using risk ratings applied to the loans based upon rating criteria consistent with regulatory definitions. The risk rating is adjusted, as necessary, if loans become delinquent, if significant adverse information is discovered regarding the underlying credit and, in the case of commercial loans and commercial real estate loans, the normal periodic review of the underlying credit indicates that a change in risk rating is appropriate. An estimated “low” and “high” loss percentage is applied to loans in each risk rating. These loss percentages increase as the loan risk rating increases. Loans rated as substandard, doubtful or loss are evaluated separately and assigned loss amounts based upon the separate evaluation. Risks factors identified beyond individual loan risks, such as economic conditions, underwriting exceptions and loan concentrations are quantified based upon management’s estimations of loss exposure. Loss percentages used are generally based upon management’s best estimates considering losses incurred. Estimated “low” and “high” allowance for loan loss amounts are derived by accumulating the estimated losses using the “low” and “high” loss percentages for each risk rating and adding losses based upon separate loan evaluations and identified other risks. The actual allowance for loan losses is compared to this range to ascertain that it is reasonably situated within the range. In addition, on at least a quarterly basis, the recorded allowance for loan losses (as a percent of loans) is compared to peer group levels to ascertain the reasonableness of the estimate. At March 31, 2011, the actual allowance for loan losses of 1.91% was between the “high” allowance amount of 1.94% and the low range percent of 1.69%.

The allowance for loan losses represents 1.91% and 1.72% of loans receivable at March 31, 2011 and December 31, 2010, respectively. The increase in the allowance for loan losses as a percent of loans at March 31, 2011 as compared to December 31, 2010 resulted from increased specific reserves as well as general reserves reflecting the effect of the current economic conditions. There was no change in the methodology of determining the allowance for loan losses at March 31, 2011 as compared to December 31, 2010 apart from changes to loss factors based on management’s perception of economic environmental factors and trends. Management believes that the allowance for loan losses is adequate for each period presented.

The activity in the allowance for loan losses is shown in the following table.

		Three Months
		Ended				Year Ended December 31,
(In thousands)		March 31, 2011				2010				2009				2008				2007
Allowance for loan losses:
Beginning balance		$	3,174			$	2,380			$	1,860			$	1,665			$	1,614
Charge-offs — Commercial and Industrial loans			(85	)			(1,140	)			(500	)			(179	)			(72	)
Charge-offs — SBA loans			(143	)			(447	)			(463	)			(318	)			—
Recoveries — Commercial and Industrial loans			6				26				—				45				78
Recoveries — SBA loans			3				25				5				—				—
Real estate loans:
Charge-offs — Owner occupied			(47	)			—				(138	)			—				—
Charge-offs — Non owner occupied			—				(386	)			—				—				—
Net recoveries (charge-offs)			(266	)			(1,922	)			(1,096	)			(452	)			6
Provision for loan losses			681				2,716				1,616				647				45
Ending balance		$	3,589			$	3,174			$	2,380			$	1,860			$	1,665
Net recoveries (charge-offs) to average loans			(0.14	%)			(1.04	%)			(0.65	%)			(0.33	%)			0.00	%

During 2011, loans to seven borrowers and related entities totaling $0.3 million were determined to be uncollectible and were charged-off.

The activity in the allowance for loan losses by category during the three months ended March 31, 2011 is shown in the following table.

										Real Estate Loans
		Commercial												Non-
		and				SBA				Owner				Owner
In thousands		Industrial				Loans				Occupied				Occupied				Unallocated				Total
Balance at December 31, 2010		$	1,023			$	627			$	682			$	715			$	127			$	3,174
Less loan charge offs			85				143				47				—				—				275
Loss recoveries			6				3				—				—				—				9
Provision for loan losses			367				11				229				63				11				681
Balance at March 31, 2011		$	1,311			$	498			$	864			$	778			$	138			$	3,589
Allowance for loans individually evaluated for impairment		$	822			$	119			$	646			$	426			$	—			$	2,013
Amount of loans individually evaluated for impairment		$	1,445			$	319			$	8,673			$	3,234			$	—			$	13,671

The activity in the allowance for loan losses by category during the three months ended March 31, 2010 is shown in the following table.

										Real Estate Loans
		Commercial												Non-
		and				SBA				Owner				Owner
In thousands		Industrial				Loans				Occupied				Occupied				Unallocated				Total
Balance at December 31, 2009		$	1,290			$	576			$	168			$	242			$	104			$	2,380
Loan charge offs			150				325				—				—				—				475
Loss recoveries			21				3				—				—				—				24
Provision for loan losses			198				163				21				78				(13	)			447
Balance at March 31, 2010		$	1,359			$	417			$	189			$	320			$	91			$	2,376
Allowance for loans individually evaluated for impairment		$	886			$	54			$	22			$	46			$	—			$	988
Amount of loans individually evaluated for impairment		$	2,631			$	256			$	8,725			$	1,854			$	—			$	13,466

Additionally, the Company has established a reserve for unfunded commitments that is recorded by a provision charged to other expenses. At March 31, 2011 the balance of this reserve was $60 thousand. The reserve, based on evaluations of the collectability of loans, is an amount that management believes will be adequate over time to absorb possible losses on unfunded commitments (off-balance sheet financial instruments) that may become uncollectible in the future.

Asset Quality. In its lending activities, the Company seeks to develop sound loans with customers who will grow with the Company. There has not been an effort to rapidly build the portfolio and earnings at the sacrifice of asset quality. At the same time, the extension of credit inevitably carries some risk of non-payment.

Below is a summary of the Company’s impaired loans at March 31, 2011 and December 31, 2010:

																		For Period:
																		Average
										Related Allowance for								Recorded				Interest Income
		Recorded Investment								Losses								Investment				Recognized
		March 31,				December 31,				March 31,				December 31,				March 31,				March 31,				December 31,
		2011				2010				2011				2010				2011				2011				2010
Non-accrual loans:
Commercial and Industrial loans:
With specific reserves		$	1,186			$	963			$	791			$	445			$	985			$	—			$	25
Without specific reserves			—				—				—				—								—				—
			1,186				963				791				445				985				—				25
SBA loans:
With specific reserves			248				359				119				194				325				—				8
Without specific reserves			27				29				—				—				29				—				—
			275				388				119				194				354				—				8
Real Estate — Owner Occupied:
With specific reserves			3,202				3,140				646				483				3,179				—				64
Without specific reserves			545				816				—				—				613				—				17
			3,747				3,956				646				483				3,792				—				81