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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the Quarterly Period Ended September 30, 2012

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

For the Transition Period from to

Commission file number 333-152331

COASTAL CAROLINA BANCSHARES, INC.

(Exact name of registrant as specified in its charter)

South Carolina

33-1206107

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

2305 Oak Street

Myrtle Beach , South Carolina 29577

(Address of principal executive offices, including zip code)

(843) 839-1953

(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. x YES ¨ NO

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x NO ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, 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 x NO

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 2,188,000 shares of common stock par value $0.01 per share, were outstanding as of November 5, 2012.

INDEX


		Page No.

PART I - FINANCIAL INFORMATION

Item 1.	Financial Statements

	Consolidated Balance Sheets - September 30, 2012 (unaudited) and December 31, 2011		3

	Consolidated Statements of Operations and Comprehensive Income (Loss) (unaudited) - Three months and nine months ended September 30, 2012 and 2011		4

	Consolidated Statements of Shareholders’ Equity (unaudited) - Nine months ended September 30, 2012 and 2011		5

	Consolidated Statements of Cash Flows (unaudited) - Nine months ended September 30, 2012 and 2011		6

	Notes to the Consolidated Financial Statements		7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		22

Item 3.	Quantitative and Qualitative Disclosures About Market Risk		29

Item 4.	Controls and Procedures		30

PART II - OTHER INFORMATION

Item 1.	Legal Proceedings		31

Item 1A.	Risk Factors		31

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		31

Item 3.	Defaults Upon Senior Securities		31

Item 4.	Mine Safety Disclosure		31

Item 5.	Other Information		31

Item 6.	Exhibits		31

PART I – FINANCIAL INFORMATION

Item 1.

Financial Statements

COASTAL CAROLINA BANCSHARES, INC.

Consolidated Balance Sheets


	September 30, 2012			December 31, 2011
	(Unaudited)			December 31, 2011
Assets
Cash and non-interest due from banks	$	1,158,321		$	1,023,828
Federal funds sold		4,138,442			824,978
Interest-bearing bank deposits		8,153,166			9,471,498

Total cash and cash equivalents		13,449,929			11,320,304
Securities available for sale		24,337,728			29,507,235
Federal Reserve Bank stock		398,300			394,050
Federal Home Loan Bank stock		140,400			183,800
Loans held for sale		3,947,329			888,750
Loans receivable		57,634,447			52,639,397
Deferred loan fees, net		(117,086	)		(132,311	)
Allowance for loan losses		(1,000,194	)		(1,091,877	)

Loans, net		56,517,167			51,415,209
Premises and equipment, net		324,733			246,443
Accrued income and other assets		470,660			468,888

Total assets	$	99,586,246		$	94,424,679


Liabilities and Shareholders’ Equity
Liabilities
Deposits:
Non-interest bearing demand	$	6,189,334		$	4,819,581
Interest checking		5,087,967			4,604,083
Money market		33,564,496			35,352,570
Savings		654,521			500,947
Certificates of deposit		38,754,733			34,500,228

Total deposits		84,251,051			79,777,409
Accrued expenses and other liabilities		873,051			561,446

Total liabilities		85,124,102			80,338,855

Shareholders’ Equity
Preferred stock, $.01 par value, 10,000,000 shares authorized, none issued and outstanding		—			—
Common stock, $.01 par value, 50,000,000 shares authorized, 2,188,000 and 2,190,500 issued and outstanding at September 30, 2012 and December 31, 2011, respectively		21,880			21,905
Additional paid-in capital		21,814,282			21,794,089
Unearned compensation, nonvested restricted stock		(11,806	)		(44,583	)
Retained deficit		(7,884,153	)		(7,826,852	)
Accumulated other comprehensive income		521,941			141,265

Total shareholders’ equity		14,462,144			14,085,824

Total liabilities and shareholders’ equity	$	99,586,246		$	94,424,679

See notes to the consolidated financial statements.

COASTAL CAROLINA BANCSHARES, INC.

Consolidated Statements of Operations and Comprehensive Income (Loss)

(Unaudited)


	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Interest income
Loans, including fees	$	835,164		$	628,778		$	2,408,430		$	1,520,323
Federal funds sold and interest-bearing bank deposits		9,651			16,715			32,471			75,773
Securities		146,971			224,712			427,358			668,517
Federal Reserve & Federal Home Loan stock dividend		6,796			6,671			19,811			19,827

Total interest income		998,582			876,876			2,888,070			2,284,440
Interest expense
Deposits:
Interest checking		8,689			11,032			25,479			30,638
Money market and savings		52,467			87,534			179,439			292,749
Certificates of deposit < $100,000		35,558			34,561			105,090			99,881
Certificates of deposit ³ $100,000		75,323			72,770			223,651			209,376

Total interest expense		172,037			205,897			533,659			632,644

Net interest income before provision for loan losses		826,545			670,979			2,354,411			1,651,796
Provision for loan losses		—			61,474			14,094			556,897

Net interest income after provision for loan losses		826,545			609,505			2,340,317			1,094,899
Noninterest income
Service charges on deposits		7,695			13,194			33,565			26,676
Gain on sale of loans		56,624			—			102,140			8,629
Gain on sale of investment securities		103,109			168,089			162,416			297,585
ATM, debit, and merchant fees		7,340			5,196			18,945			13,306
Other		2,867			11,173			24,435			15,739

Total noninterest income		177,635			197,652			341,501			361,935
Noninterest expense
Salaries and employee benefits		525,158			520,125			1,593,309			1,613,764
Data processing		86,612			86,652			269,642			246,520
Professional services		41,445			41,116			185,233			141,953
Occupancy and equipment		94,692			85,262			264,091			271,179
Marketing and business development		37,468			37,058			121,514			135,216
Shareholder communications		12,781			9,653			42,062			31,148
Postage and supplies		10,783			10,544			30,844			31,279
Corporate insurance		7,656			6,911			21,398			18,978
Telecommunications		4,789			5,189			15,321			16,061
FDIC insurance and regulatory assessments		31,845			26,406			94,863			88,982
Other		33,202			19,424			100,842			68,411

Total noninterest expense		886,431			848,340			2,739,119			2,663,491
Income (loss) before income taxes		117,749			(41,183	)		(57,301	)		(1,206,657	)
Income taxes		—			—			—			—

Net income (loss)	$	117,749		$	(41,183	)	$	(57,301	)	$	(1,206,657	)

Other comprehensive income:
Unrealized gains on securities available for sale	$	114,138		$	596,707		$	624,059		$	1,107,580
Reclassification of gains recognized in net loss		(103,109	)		(168,089	)		(162,416	)		(297,585	)
Tax effect		58,595			(64,626	)		(80,967	)		(134,371	)

Total other comprehensive income		69,624			363,992			380,676			675,624

Comprehensive income (loss)	$	187,373		$	322,809		$	323,375		$	(531,033	)

Earnings (loss) per share

Basic and diluted earnings (loss) per share	$	0.05		$	(0.02	)	$	(0.03	)	$	(0.55	)


Average shares outstanding		2,188,000			2,191,500			2,188,484			2,190,238

See notes to the consolidated financial statements.

COASTAL CAROLINA BANCSHARES, INC.

Consolidated Statements of Shareholders’ Equity (Unaudited)

Nine Months Ended September 30, 2012 and 2011


										Unearned						Accumulated
							Additional			Compensation						Other			Total
	Common Stock						Paid-in			Nonvested			Retained			Comprehensive			Shareholders’
	Shares			Amount			Capital			Restricted Stock			Deficit			Income (Loss)			Equity

December 31, 2010		2,185,000		$	21,850		$	21,667,958		$	(25,000	)	$	(6,548,688	)	$	(344,832	)	$	14,771,288
Net Loss		—			—			—			—			(1,206,657	)		—			(1,206,657	)
Change in unrealized gains and losses on securities, net		—			—			—			—			—			675,624			675,624
Restricted Stock		6,500			65			64,935			(65,000	)		—			—			—
Organizer/founder warrants		—			—			12,366			—			—			—			12,366
Stock-based compensation		—			—			37,025			31,458			—			—			68,483

September 30, 2011		2,191,500		$	21,915		$	21,782,284		$	(58,542	)	$	(7,755,345	)	$	330,792		$	14,321,104


December 31, 2011		2,190,500		$	21,905		$	21,794,089		$	(44,583	)	$	(7,826,852	)	$	141,265		$	14,085,824
Net Loss		—			—			—			—			(57,301	)		—			(57,301	)
Change in unrealized gains and losses on securities, net		—			—			—			—			—			380,676			380,676
Restricted Stock		(2,500	)		(25	)		(8,586	)		24,166			—			—			15,555
Organizer/founder warrants		—			—			6,870			—			—			—			6,870
Stock-based compensation		—			—			21,909			8,611			—			—			30,520

September 30, 2012		2,188,000		$	21,880		$	21,814,282		$	(11,806	)	$	(7,884,153	)	$	521,941		$	14,462,144

See notes to the consolidated financial statements.

COASTAL CAROLINA BANCSHARES, INC.

Consolidated Statements of Cash Flows

(Unaudited)


	Nine Months Ended September 30,
	2012			2011
Operating activities
Net loss	$	(57,301	)	$	(1,206,657	)
Adjustments to reconcile net income (loss) to net cash provided (used) by operating activities:
Provision for loan losses		14,094			556,897
Increase (decrease) in deferred loan fees, net		(15,225	)		62,944
Gains on sale of loans held for sale		(102,140	)		(8,629	)
Origination of loans held for sale, net		(8,929,713	)		(95,764	)
Proceeds from sale of loans held for sale		5,973,274			444,393
Premium amortization and discount accretion on securities, net		331,477			206,547
Securities gains, net		(162,416	)		(297,585	)
Depreciation and amortization expense		67,291			91,912
Stock-based compensation expense		52,945			80,850
Decrease (increase) in accrued interest receivable		9,808			(29,893	)
Decrease in accrued interest payable		(7,010	)		(7,647	)
Decrease (increase) in other assets		(11,580	)		41,608
Increase in other liabilities		75,230			139,356

Net cash used in operating activities		(2,761,266	)		(21,668	)

Investing activities
Net increase in loans		(5,100,827	)		(24,410,773	)
Purchases of securities available for sale		(7,642,551	)		(28,451,802	)
Proceeds from paydowns of securities available for sale		3,395,628			2,224,405
Proceeds from sales of securities available for sale		9,871,430			24,153,638
Redemption (purchase) of Federal Reserve Bank stock		(4,250	)		39,050
Redemption (purchase) of Federal Home Loan Bank stock		43,400			(93,800	)
Purchases of premises and equipment		(145,581	)		(30,431	)

Net cash provided by (used in) investing activities		417,249			(26,569,713	)

Financing activities
Net increase in demand deposits, interest-bearing transaction accounts and savings accounts		219,137			15,335,056
Net increase in certificates of deposit		4,254,505			5,066,737

Net cash provided by financing activities		4,473,642			20,401,793

Net increase (decrease) in cash and cash equivalents		2,129,625			(6,189,588	)


Cash and cash equivalents, beginning of period		11,320,304			18,593,850

Cash and cash equivalents, end of period	$	13,449,929		$	12,404,262


Supplemental disclosures of cash flow information
Cash paid for:
Interest on deposits	$	540,669		$	434,394

See notes to the consolidated financial statements.

COASTAL CAROLINA BANCSHARES, INC.

Notes to Consolidated Financial Statements

September 30, 2012

Note 1 – Business and Basis of Presentation

Organization – On February 28, 2008, Coastal Carolina Bancshares, Inc. (the “Company”) was incorporated to act as the holding company for Coastal Carolina National Bank (the “Bank”). The Bank began banking operations on June 8, 2009. The principal business activity of the Bank is to provide banking services to domestic markets, principally in Myrtle Beach, South Carolina. The Bank is a nationally-chartered commercial bank and its deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”).

Basis of Presentation – 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. Accordingly, they do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. However, in the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three and nine month periods ended September 30, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012. For further information, refer to the financial statements and footnotes thereto included in our Annual Report on Form 10-K for 2011 as filed with the Securities and Exchange Commission (the “SEC”) on March 29, 2012.

Note 2 – Summary of Significant Accounting Policies

A summary of these policies is included in our Annual Report on Form 10-K filed with the SEC for the year ended December 31, 2011. For further information, refer to the consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for 2011 as filed with the SEC. It is uncertain whether Accounting standards that have been issued or proposed by the Financial Accounting Standards Board (the “FASB”) that do not require adoption until a future date will have a material impact on the Company’s consolidated financial statements upon adoption.

Statement of Cash Flow – For purposes of reporting cash flows, the Company considered certain highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. Cash equivalents include amounts due from banks, federal funds sold, and interest-bearing bank deposits. Generally, federal funds are sold for one-day periods.

Income (Loss) Per Share – Basic income (loss) per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding. Diluted income (loss) per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding and dilutive common share equivalents using the treasury stock method. Dilutive common share equivalents include common shares issuable upon exercise of outstanding stock warrants and stock options. There were no dilutive common share equivalents outstanding during the nine months ended September 30, 2012 and 2011 due to the net loss; therefore, basic income (loss) per share and diluted earnings per share were the same.


	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2012		2011			2012			2011

Net income (loss) to common shareholders	$	117,749	$	(41,183	)	$	(57,301	)	$	(1,206,657	)

Weighted-average number of common shares outstanding		2,188,000		2,191,500			2,188,484			2,190,238

Net income (loss) per share	$	0.05	$	(0.02	)	$	(0.03	)	$	(0.55	)

Comprehensive Income – Accounting principles generally require that recognized income, expenses, gains, and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component and such items, along with net income, are components of comprehensive income.

Note 3 – Recently Issued or Proposed Accounting Pronouncements

The following is a summary of recent authoritative pronouncements:

•

In April 2011, the criteria used to determine effective control of transferred assets in the Transfers and Servicing topic of the ASC was amended by ASU 2011-03. The requirement for the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms and the collateral maintenance implementation guidance related to that criterion were removed from the assessment of effective control. The other criteria to assess effective control were not changed. The amendments were effective for the Company on January 1, 2012 and had no effect on the financial statements.

•

ASU 2011-04 was issued in May 2011 to amend the Fair Value Measurement topic of the ASC by clarifying the application of existing fair value measurement and disclosure requirements and by changing particular principles or requirements for measuring fair value or for disclosing information about fair value measurements. The amendments were effective for the Company beginning January 1, 2012 and had no effect on the financial statements.

•

The Comprehensive Income topic of the ASC was amended in June 2011. The amendment eliminates the option to present other comprehensive income as a part of the statement of changes in stockholders’ equity and requires consecutive presentation of the statement of net income and other comprehensive income. The amendments were applicable to the Company on January 1, 2012 and have been applied retrospectively. In December 2011, the topic was further amended to defer the effective date of presenting reclassification adjustments from other comprehensive income to net income on the face of the financial statements. Companies should continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect prior to the amendments while FASB redeliberates future requirements.

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.

Note 4 – Cash and Cash Equivalents

As of September 30, 2012, cash and cash equivalents totaled $13.4 million and were represented by $1.2 million in cash on hand and noninterest-bearing deposits with other banks, $8.2 million in interest-bearing deposits with other banks, and $4.1 million in federal funds sold. Interest-bearing deposits with other banks included $3.9 million in certificates of deposits (“CDs”) invested at other banks that carry a weighted average rate of .64% with maturities between 3 and 17 months, $2.0 million at the Federal Reserve and Federal Home Loan Banks, and $2.3 million in money market deposit accounts. These balances allow the Company to meet liquidity requirements and provide temporary holdings until the funds can be otherwise deployed or invested.

Note 5 – Securities

The following is a summary of the amortized cost, unrealized gains and losses, and estimated fair value of the investment securities portfolio at September 30, 2012 and December 31, 2011 by major classification:


	September 30, 2012
			Gross		Gross
			Unrealized		Unrealized			Fair
	Amortized Cost		Gains		Losses			Value
Small Business Administration bonds	$	1,499,827	$	40,017	$	—		$	1,539,844
Municipal bonds		3,010,829		138,529		(28,755	)		3,120,603
Collateralized mortgage obligations (CMOs)		2,536,424		51,515		—			2,587,939
Mortgage-backed securities (MBSs)		16,435,006		654,336		—			17,089,342

Total securities available for sale	$	23,482,086	$	884,397	$	(28,755	)	$	24,337,728


	December 31, 2011
			Gross		Gross
			Unrealized		Unrealized			Fair
	Amortized Cost		Gains		Losses			Value
Government-sponsored enterprise bonds	$	2,000,000	$	1,408	$	—		$	2,001,408
Municipal bonds		3,168,963		86,479		—			3,255,442
Collateralized mortgage obligations (CMOs)		2,861,013		30,088		—			2,891,101
Mortgage-backed securities (MBSs)		21,245,677		145,690		(32,083	)		21,359,284

Total securities available for sale	$	29,275,653	$	263,665	$	(32,083	)	$	29,507,235

The following table summarizes the unrealized losses and fair value of securities, aggregated by category and length of time that securities have been in a continuous unrealized loss position at September 30, 2012 and December 31, 2011.


	September 30, 2012
	Less than 12 months					12 months or longer				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
	Value		Losses			Value		Losses		Value		Losses
Municipal bonds	$	775,050	$	(28,755	)	$	—	$	—	$	775,050	$	(28,755	)

Total temporarily impaired securities	$	775,050	$	(28,755	)	$	—	$	—	$	775,050	$	(28,755	)


	December 31, 2011
	Less than 12 months					12 months or longer				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
	Value		Losses			Value		Losses		Value		Losses
Mortgage-backed securities (MBSs)	$	10,734,122	$	(32,083	)	$	—	$	—	$	10,734,122	$	(32,083	)

Total temporarily impaired securities	$	10,734,122	$	(32,083	)	$	—	$	—	$	10,734,122	$	(32,083	)

The contractual maturity distribution and yields of the Bank’s securities portfolio at September 30, 2012 are summarized below. Actual maturities may differ from contractual maturities shown below since borrowers may have the right to pre-pay these obligations without pre-payment penalties.


	Securities
	Available For Sale
	Amortized		Estimated
	Cost		Fair Value
Due after five years but within ten years	$	1,827,806	$	1,914,178
Due after ten years		21,654,280		22,423,550

Total ⁽¹⁾	$	23,482,086	$	24,337,728

⁽¹⁾

Maturities estimated based on average life of security.

The Bank also owned Federal Reserve Bank (“FRB”) stock with a cost of $398,300 at September 30, 2012 and $394,050 at December 31, 2011. The yield at both periods was 6%. The amount of FRB stock held is based on our shareholders’ equity. As shareholders’ equity increases or decreases, the amount of FRB stock may also increase or decrease quarterly.

The Bank owned $140,400 in Federal Home Loan Bank (“FHLB”) stock at September 30, 2012 and $183,800 at December 31, 2011. The amount of FHLB stock held is based on our total assets and the amount of outstanding advances with the FHLB. Therefore, stock ownership levels with the FHLB are subject to change. The yield on FHLB stock is variable at the discretion of the FHLB. The dividend paid for September 30, 2012 was 2.43% and 1.23% for December 31, 2011.

Securities with an amortized cost of $9.1 million at September 30, 2012 and $6.3 million at December 31, 2011, were pledged to secure public deposits. During the nine months ended September 30, 2012, the Bank sold five mortgage backed securities with amortized costs of $6.8 million, two municipal bonds with amortized costs of $952,000, and had one agency bond called with an amortized cost of $2.0 million. During the nine months ended September 30, 2012, the Bank purchased four mortgage backed securities, one SBA pool, and one municipal bond with amortized costs of $7.6 million.

There were no write-downs for other-than-temporary declines in the fair value of debt securities for the nine month period ended September 30, 2012. At September 30, 2012, there were no investment securities considered to be other than temporarily impaired. The Bank’s mortgage-backed securities are investment grade securities backed by a pool of mortgages. Principal and interest payments on the underlying mortgages are used to pay monthly interest and principal on the securities.

Note 6 – Credit Quality

Provision and Allowance for Loan Losses

An allowance for loan losses has been established through a provision for loan losses charged to expense on the consolidated statement of operations. The allowance for loan losses represents an amount management has determined is adequate to absorb probable losses on existing loans that may become uncollectible. Growth in the loan portfolio is the primary reason for additions to the allowance for loan losses. Additionally, provisions may be made for non-performing loans.

The first step in the process is to assign a credit risk grade to each loan in the portfolio based on one common set of parameters that include items such as cash flow coverage ratios, debt-to-worth ratio, liquidity of the borrower, net worth, experience of the borrower, and other factors. The general pool of performing loans is then segmented into categories based on FFIEC call codes, which represent different loan types such as commercial loans, construction loans, consumer loans, and so on. The loss history of each loan type is measured and includes actual history experienced by the bank and the loss experiences of peer banks. The loss history results in a factor that is applied to each loan pool. Additionally, other factors are applied to represent known or expected changes to the loan portfolio resulting from economic and industry developments, the depth and knowledge of management, changes in policies and practices, and more. These environmental factors require judgment and estimates, and the eventual outcomes may differ from the estimates. The combined factors are applied to each loan category and result in the necessary allowance for the general performing loan pool.

The Bank evaluates non-performing loans, loans with credit risk grades of Special Mention, Substandard, Doubtful, or worse, past due loans, loans on non-accrual, and any restructured loans separately on an individual basis to determine if the loan is impaired. Impaired loans and non-performing loans can require higher loan loss reserves. If a loan is individually evaluated and identified as impaired, it is measured by using either the fair value of the collateral less costs to sell, present value of expected future cash flows discounted at the loans effective interest rate, or observable market price of the loan. Management chooses a method on a loan-by-loan basis depending on which information is available. Measuring impaired loans requires judgment and estimates and the eventual outcomes may differ from the estimates.

The following table sets forth certain information with respect to our allowance for loan losses and the composition of charge offs and recoveries at September 30, 2012 and December 31, 2011.


Allowance for Loan Losses and Recorded Investment in Loans Receivable For the Nine Months Ended September 30, 2012
	Construction and Land Development			Real Estate Mortgage			Real Estate Other			Commercial and Industrial			Consumer			Unallocated		Total
Allowance for loan losses:
Beginning Balance	$	64,170		$	213,709		$	700,160		$	77,123		$	35,027		$	1,688	$	1,091,877
Charge-offs		(37,277	)		—			(49,820	)		—			(18,680	)		—		(105,777	)
Recoveries		—			—			—			—			—			—		—
Provisions		72,739			(37,360	)		(11,793	)		(29,136	)		10,932			8,712		14,094

Ending Balance	$	99,632		$	176,349		$	638,547		$	47,987		$	27,279		$	10,400	$	1,000,194


Ending Balances:
Individually evaluated for impairment	$	—		$	—		$	198,853		$	—		$	—		$	—	$	198,853


Collectively evaluated for impairment	$	99,632		$	176,349		$	439,694		$	47,987		$	27,279		$	10,400	$	801,341


Loans receivable:
Ending balance - total	$	8,361,129		$	18,279,690		$	25,680,592		$	2,189,638		$	3,123,398				$	57,634,447


Ending Balances:
Individually evaluated for impairment	$	5,367		$	—		$	1,150,228		$	—		$	—				$	1,155,595

Collectively evaluated for impairment	$	8,355,762		$	18,279,690		$	24,530,364		$	2,189,638		$	3,123,398				$	56,478,852


Allowance for Loan Losses and Recorded Investment in Loans Receivable For the Year Ended December 31, 2011
	Construction and Land Development			Real Estate Mortgage		Real Estate Other		Commercial and Industrial		Consumer		Unallocated			Total
Allowance for loan losses:
Beginning Balance	$	92,265		$	79,048	$	185,062	$	14,981	$	2,112	$	59,282		$	432,750
Charge-offs		—			—		—		—		—		—			—
Recoveries		—			—		—		—		—		—			—
Provisions		(28,095	)		134,661		515,098		62,142		32,915		(57,594	)		659,127

Ending Balance	$	64,170		$	213,709	$	700,160	$	77,123	$	35,027	$	1,688		$	1,091,877


Ending Balances:
Individually evaluated for impairment	$	6,784		$	21,446	$	137,282	$	—	$	21,787	$	—		$	187,299


Collectively evaluated for impairment	$	57,386		$	192,263	$	562,878	$	77,123	$	13,240	$	1,688		$	904,578


Loans receivable:
Ending balance - total	$	4,875,191		$	19,628,339	$	21,783,860	$	4,437,718	$	1,914,289				$	52,639,397


Ending Balances:
Individually evaluated for impairment	$	120,384		$	166,117	$	390,282	$	—	$	21,787				$	698,570

Collectively evaluated for impairment	$	4,754,807		$	19,462,222	$	21,393,578	$	4,437,718	$	1,892,502				$	51,940,827

The adequacy of the allowance for loan losses is reviewed on an ongoing basis. The amount of the allowance is adjusted to reflect changing circumstances. Recognized losses are charged to the allowance and recoveries are added back to the allowance. As of September 30, 2012, management considered the allowance for loan losses to be adequate to meet presently known and inherent losses in the loan portfolio. The underlying assumptions used in the analysis may be impacted in future periods by changes in

economic conditions, the impact of changing regulations, and the discovery of new information with respect to borrowers not previously known to management. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance for loan losses will not be required.

Credit Quality and Non-Performing Loans

During the first nine months of 2012, the Bank charged-off one consumer loan totaling $18,680, one construction and land development loan totaling $37,277, and one real estate other loan totaling $49,820. Total charge-offs in 2012 are $105,777. There were no charge-offs in 2011.

Loans are assigned a credit risk grade upon their origination. Loans are monitored for non-performance and may be downgraded to reflect adverse conditions that might affect collectability. Heightened risk characteristics include a history of poor payment performance, poor financial performance, as well as the potential for adverse earnings impact from deteriorating collateral values.

General definitions for each credit risk level are as follows:

•

Prime credits present little to no risk as they are secured by cash and/or the borrowers have unquestionable strength with access to liquidity.

•

Good credits have average risk. Borrowers have sound primary and secondary repayment sources, strong debt capacity and coverage, and substantial liquidity and net worth. Commercial borrowers in this category work within industries exhibiting strong trends and the company exhibits favorable profitability, liquidity, and leverage trends with good management in key positions.

•

Acceptable credits are those that perform relatively close to expectations with adequate evidence the borrower is generating adequate cash flows to service the debt. Borrowers have good debt coverage and capacity, average liquidity and net worth, and operate in industries the exhibit good trends.

•

Acceptable with care credits may be borrowers who exhibit a limited asset base and liquidity, have debt capacity that is limited, or may be a start up venture that is dependent on guarantor strength. These borrowers have elements of risk the Bank chooses to closely monitor.

•

Special mention credits have a potential weakness that deserves close attention. If left uncorrected, these potential weaknesses may result in deterioration. Credits in this category are formally monitored on a recurring basis.

•

Substandard credits are inadequately protected by the worth and paying capacity of the borrower or of the collateral pledged. These credits exhibit a well-defined weakness that may jeopardize the liquidation of the debt. There is a possibility these credits may result in losses if the observed weakness is not corrected.

•

Doubtful credits have all the weaknesses of a substandard credit with the added characteristic that the weakness makes collection or liquidation in full improbable.

•

Loss assets are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. Losses should be taken in the period in which they surface as uncollectible.

The Bank had $2,667,361 and $3,337,162 in loans classified as Substandard or worse as of September 30, 2012 and December 31, 2011, respectively.

Credit risk grades within the loan portfolio as of September 30, 2012 and December 31, 2011 are presented in the following three tables, separately for commercial loans, residential real estate loans, and consumer loans, with breakdowns provided for loan types within those categories.


Credit Risk Profile of Commercial Loans
	September 30, 2012						December 31, 2011
			Commercial						Commercial
			Real Estate		Commercial				Real Estate		Commercial
	Commercial		Construction		Real Estate		Commercial		Construction		Real Estate
Prime	$	537,504	$	—	$	—	$	425,000	$	—	$	—
Good		—		—		—		2,000,000		—		—
Acceptable		176,301		1,988,208		6,204,268		245,490		1,978,000		6,954,362
Acceptable with care		1,293,986		4,732,554		16,645,788		1,567,228		1,231,118		10,959,444
Special mention		8,942		—		395,810		—		—		1,001,180
Substandard assets		172,905		5,367		2,434,726		200,000		120,384		2,868,874
Doubtful assets		—		—		—		—		—		—
Loss assets		—		—		—		—		—		—

Total	$	2,189,638	$	6,726,129	$	25,680,592	$	4,437,718	$	3,329,502	$	21,783,860


Credit Risk Profile of Residential Loans
	September 30, 2012								December 31, 2011
	Residential - Prime				Residential - Subprime				Residential - Prime				Residential - Subprime
	Residential		Residential		Residential		Residential		Residential		Residential		Residential		Residential
	Mortgage		Construction		Mortgage		Construction		Mortgage		Construction		Mortgage		Construction
Prime	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Good		155,710		—		—		—		174,479		—		—		—
Acceptable		13,991,388		1,635,000		—		—		14,745,996		1,545,689		—		—
Acceptable with care		3,508,770		—		—		—		3,959,623		—		—		—
Special mention		569,460		—		—		—		582,124		—		—		—
Substandard assets		54,362		—		—		—		166,117		—		—		—
Doubtful assets		—		—		—		—		—		—		—		—
Loss assets		—		—		—		—		—		—		—		—

Total	$	18,279,690	$	1,635,000	$	—	$	—	$	19,628,339	$	1,545,689	$	—	$	—


Credit Risk Profile of Consumer Loans
	September 30, 2012				December 31, 2011
	Consumer -		Consumer -		Consumer -		Consumer -
	Auto		Other		Auto		Other
Prime	$	—	$	214,691	$	—	$	224,075
Good		11,410		—		20,795		—
Acceptable		21,639		2,862,070		27,013		1,599,254
Acceptable with care		—		832		—		6,791
Special mention		12,356		400		14,574		—
Substandard assets		—		—		—		21,787
Doubtful assets		—		—		—		—
Loss assets		—		—		—		—

Total	$	45,405	$	3,077,993	$	62,382	$	1,851,907

Generally, the first indication of the non-performance of a loan is a missed payment. Thus, one of the adverse indicators used in monitoring the credit quality of a loan is the past due status of the loan payments. Generally, a loan will be placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the loan is doubtful. When a loan is placed on non-accrual, all previously accrued interest that has not been received is reversed against current income. The recognition of interest on a non-accrual loan is placed on a cash basis and can be recognized when and if a payment is received. Generally, payments received on non-accrual loans are applied directly to principal.

Below are tables that present the past due status of loans receivable as of September 30, 2012 and December 31, 2011.


September 30, 2012
											Past Due >
	30 - 59 Days		60 - 89 Days								90 Days and
	Past Due		Past Due		Nonaccrual		Current		Total Loans		Accruing
Construction/Land development	$	95,900	$	—	$	5,367	$	8,259,862	$	8,361,129	$	—
Real estate - mortgage		—		—		—		18,279,690		18,279,690		—
Real estate - other		—		—		—		25,680,592		25,680,592		—
Commercial and industrial		—		—		—		2,189,638		2,189,638		—
Consumer and other		400		—		—		3,122,998		3,123,398		—

Total	$	96,300	$	—	$	5,367	$	57,532,780	$	57,634,447	$	—


December 31, 2011
											Past Due >
	30 - 59 Days		60 - 89 Days								90 Days and
	Past Due		Past Due		Nonaccrual		Current		Total Loans		Accruing
Construction/Land development	$	—	$	—	$	120,384	$	4,754,807	$	4,875,191	$	—
Real estate - mortgage		—		—		166,117		19,462,222		19,628,339		—
Real estate - other		—		—		390,282		21,393,578		21,783,860		—
Commercial and industrial		—		—		—		4,437,718		4,437,718		—
Consumer and other		—		—		21,787		1,892,502		1,914,289		—

Total	$	—	$	—	$	698,570	$	51,940,827	$	52,639,397	$	—

As of September 30, 2012, loans past due totaled $101,667, none of which were past due greater than 90 days. At September 30, 2012, the Bank had one loan on non-accrual status totaling $5,367. As of December 31, 2011, loans past due totaled $427,559, of which all were on non-accrual status, and of which $37,277 were past due greater than 90 days. At December 31, 2011, the Bank had five loans on non-accrual status totaling $698,570.

The Bank did not have any loans past due 90 days and still accruing as of September 30, 2012 or December 31, 2011.

An impaired loan is one in which the Bank does not anticipate full repayment, either from the customer’s inability to repay or from the liquidation of collateral. Impaired loans totaled $1,155,595 and $278,510 as of September 30, 2012 and 2011, respectively. The following table sets forth certain information regarding the type of impaired loans, their related allowances, and any interest income recognized on impaired loans during the quarter ended September 30, 2012 and 2011.


Impaired Loans For the Quarter Ended September 30, 2012
	Outstanding				Average				Interest
	Principal		Recorded		Recorded		Related		Income
	Balance		Investment		Investment		Allowance		Recognized
With no related allowance recorded:
Construction and land development	$	5,367	$	5,367	$	82,832	$	—	$	—

With an allowance recorded:
Construction and land development		—		—		—		—		—
Real estate - mortgage		—		—		—		—		—
Real estate - other		1,150,228		1,150,228		1,150,228		198,853		61,282
Commercial and industrial		—		—		—		—		—
Consumer loans to individuals		—		—		—		—		—

Total:	$	1,155,595	$	1,155,595	$	1,233,060	$	198,853	$	61,282


Impaired Loans For the Quarter Ended September 30, 2011
	Outstanding				Average				Interest
	Principal		Recorded		Recorded		Related		Income
	Balance		Investment		Investment		Allowance		Recognized
With no related allowance recorded:
Construction and land development	$	—	$	—	$	—	$	—	$	—

With an allowance recorded:
Construction and land development		253,664		253,664		246,755		13,764		—
Real estate - mortgage		—		—		—		—		—
Real estate - other		—		—		—		—		—
Commercial and industrial		—		—		—		—		—
Consumer loans to individuals		24,846		24,846		24,846		24,846		—

Total:	$	278,510	$	278,510	$	271,601	$	38,610	$	—

As of September 30, 2012, management was not aware of any additional loans that were not already considered for impairment or categorized as impaired or on non-accrual.

If a loan is modified as a result of a customer’s inability to meet the original terms, and if the modification gives the customer more favorable terms that would not otherwise be granted, the loan is considered to be a troubled debt restructuring. As of September 30, 2012, the Bank had two loans that qualify as trouble debt restructuring. The following table presents information regarding the Bank’s loans that qualify as a troubled debt restructuring as of September 30, 2012 and 2011.


September 30, 2012
	Number of Loans		Pre-modification Outstanding Balances		Post-modification Outstanding Balances		Number of Loans that Subsequently Defaulted		Balances of Loans that Subsequently Defaulted
Construction and land development		1	$	100,000	$	5,367		—	$	—
Real estate - mortgage		—		—		—		—		—
Real estate - other		1		1,150,228		1,150,228		—		—
Commercial and industrial		—		—		—		—		—
Consumer and other		—		—		—		—		—

Total		2	$	1,250,228	$	1,155,595		—	$	—


September 30, 2011
	Number of Loans		Pre-modification Outstanding Balances		Post-modification Outstanding Balances		Number of Loans that Subsequently Defaulted		Balances of Loans that Subsequently Defaulted
Construction and land development		2	$	137,277	$	122,227		1	$	37,277
Real estate - mortgage		—		—		—		—		—
Real estate - other		—		—		—		—		—
Commercial and industrial		—		—		—		—		—
Consumer and other		1		24,846		24,846		—		—

Total		3	$	162,123	$	147,073		1	$	37,277

Note 7 – Leases and Premises On

September 10, 2012, the Bank received approval from the Office of the Comptroller of the Currency (“OCC”) to establish a new branch located in Garden City, South Carolina. A lease for the location commenced on September 1, 2012. The initial ten-year term expires August 31, 2022. The Company has the option to extend the lease for up to two five-year terms. The total of the contractual lease payments for the initial ten-year term is expected to be $436,000.

Note 8 – Fair Value Measurements

The current accounting literature requires the disclosure of fair value information for financial instruments, whether or not they are recognized in the consolidated balance sheets, when it is practical to estimate the fair value. The guidance defines a financial instrument as cash, evidence of an ownership interest in an entity or contractual obligations, which require the exchange of cash, or other financial instruments. Certain items are specifically excluded from the disclosure requirements, including the Company’s common stock, premises and equipment, accrued interest receivable and payable, and other assets and liabilities.

The fair value of a financial instrument is the amount at which the asset or obligation could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instruments. Because no market value exists for a significant portion of the financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors.

The Company has used management’s best estimate of fair value based on the above assumptions. Thus, the fair values presented may not be the amounts, which could be realized, in an immediate sale or settlement of the instrument. In addition, any income taxes or other expenses, which would be incurred in an actual sale or settlement, are not taken into consideration in the fair values presented.

Assets and liabilities carried at fair value are classified in one of the following three categories based on a hierarchy for ranking the quality and reliability of the information used to determine fair value:


Level 1		Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasury Securities.

Level 2		Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts and impaired loans.

Level 3		Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include 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. For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts.

For financial instruments whose fair values are estimated for disclosure purposes only, the following methods were used:

Cash and Due from Banks, Federal Funds Sold and Interest – Bearing Bank Deposits – The carrying amount is a reasonable estimate of fair value due to the short term nature of such items. These amounts generally relate to currency or highly liquid assets, thus these are considered a Level 1 valuation.

Securities Available for Sale – Investment securities available-for-sale are recorded at fair value on a recurring basis. These securities are traded less frequently, but with observable quoted prices for identical assets, thus these assets are considered a Level 2 valuation.

Federal Reserve Bank and Federal Home Loan Bank Stock – The carrying value of nonmarketable equity securities approximates the fair value since no ready market exists for the stock. These assets are considered a Level 3 valuation.

Loans Held for Sale – Loans held for sale are carried at the lower of cost or market value. The fair values of mortgage loans held for sale are based on commitments on hand from investors within the secondary market for loans with similar characteristics. Since the secondary market creates some liquidity and observable market inputs for similar assets, these assets are considered a Level 2.

Loans Receivable – For certain categories of loans, such as variable rate loans, which are repriced frequently and have no significant change in credit risk, fair values are based on the carrying amounts. The fair values of loans, excluding leases, are estimated based on groupings of similar loans by type, interest rate, and borrower creditworthiness. Discounted future cash flow analyses are performed for the groupings, incorporating assumptions of current and projected prepayment speeds and expected loss. Discount rates are determined using the Company’s current origination rates on similar loans, adjusted for changes in current liquidity and credit spreads, if necessary. Because the current liquidity spreads are generally not observable in the market and the expected loss assumptions are based on the Company’s experience, these are Level 3 valuations. However, the fair value of impaired loans is estimated based on discounted cash flows or underlying collateral values, where applicable. Thus, impaired loans are reported at Level 2 and Level 3 depending on the specifics of each impaired loan.

Deposits – The fair value of demand deposits, savings, and money market accounts is the amount payable on demand at the reporting date. The fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies current interest rates to a schedule of aggregated expected maturities. These liabilities are reported as a Level 2.

Off-Balance-Sheet Financial Instruments – The carrying amount for loan commitments are reported with zero fair value, since these amounts have not been issued.

The carrying values and estimated fair values of the Company’s financial instruments as of September 30, 2012 and December 31, 2011 were as follows:


September 30, 2012
	Carrying		Fair Value Measurements
	Amount		Total		Level 1		Level 2		Level 3
Financial assets
Cash and due from banks	$	1,158,321	$	1,158,321	$	1,158,321	$	—	$	—
Federal funds sold		4,138,442		4,138,442		4,138,442		—		—
Interest-bearing bank deposits		8,153,166		8,153,166		8,153,166		—		—
Securities available for sale		24,337,728		24,337,728		—		24,337,728		—
Federal Reserve Bank and Federal Home Loan Bank stock		538,700		538,700		—		—		538,700
Loans Held for Sale		3,947,329		3,947,329		—		3,947,329		—
Loans, net		56,517,167		57,263,944		—		5,367		57,258,577

Financial liabilities
Demand deposits, interest-bearing transaction and savings accounts		45,496,318		45,496,318		—		45,496,318		—
Certificates of deposits		38,754,733		38,941,863		—		38,941,863		—

	Notional Amount		Estimated Fair Value
Commitments to extend credit	$	8,357,517	$	—

There were no transfers between valuation levels for any assets during the quarter ended September 30, 2012.


December 31, 2011
	Carrying		Fair Value Measurements
	Amount		Total		Level 1		Level 2		Level 3
Financial assets
Cash and due from banks	$	1,023,828	$	1,023,828	$	1,023,828	$	—	$	—
Federal funds sold		824,978		824,978		824,978		—		—
Interest-bearing bank deposits		9,471,498		9,471,498		9,471,498		—		—
Securities available for sale		29,507,235		29,507,235		—		29,507,235		—
Federal Reserve Bank and Federal Home Loan Bank stock		577,850		577,850		—		—		577,850
Loans Held for Sale		888,750		888,750		—		888,750		—
Loans, net		51,415,209		52,312,902		—		83,107		52,229,795

Financial liabilities
Demand deposits, interest-bearing transaction and savings accounts		45,277,181		45,277,181		—		45,277,181		—
Certificates of deposits		34,500,228		34,338,522		—		34,338,522		—

	Notional Amount		Estimated Fair Value
Commitments to extend credit	$	10,063,247	$	—

Assets Measured at Fair Value on a Recurring Basis

Following is a description of the valuation methodologies used for assets and liabilities measured at fair value on a recurring basis, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Available-for-sale Securities

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.

Securities 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 are considered highly liquid and are classified as Level 1. 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.

The following table presents the fair value of assets evaluated on a recurring basis as of September 30, 2012 and December 31, 2011 by level within the hierarchy.


	Quoted Market Price in Active Markets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
September 30, 2012
Small Business Administration bonds	$	—	$	1,539,844	$	—
Municipal bonds		—		3,120,603		—
Collateralized mortgage obligations (CMOs)		—		2,587,939		—
Mortgage-backed securities (MBS)		—		17,089,342		—

Total	$	—	$	24,337,728	$	—


December 31, 2011
Government-sponsored enterprise bonds	$	—	$	2,001,408	$	—
Municipal bonds		—		3,255,442		—
Collateralized mortgage obligations (CMOs)		—		2,891,101		—
Mortgage-backed securities (MBS)		—		21,359,284		—

Total	$	—	$	29,507,235	$	—

There were no other assets and no liabilities measured at fair value on a recurring basis at September 30, 2012 and December 31, 2011.

Assets Measured at Fair Value on a Non-Recurring Basis

Loans Held for Sale

Loans held for sale are carried at the lower of cost or market value. The fair value of mortgage loans held for sale are based on commitments on hand from investors within the secondary market for loans with similar characteristics. As such, the fair value adjustments for mortgage loans for sale is nonrecurring Level 2.

Impaired Loans

A loan is considered impaired when the full payment of all contractual principal and interest due under the original loan terms is not expected. Impaired loans are carried at the present value of estimated future cash flows or the fair value of collateral. A portion of the

allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. Loan losses are charged against the allowance when management believes the uncollectibility in full of a loan is confirmed. When the fair value of the collateral is based on an observable market price or a current fair market valuation, generally determined by an appraisal, the Company records the loan as nonrecurring Level 2. Generally, an evaluation or appraisal is considered current when it has been performed within the last twelve months. An updated appraisal is sought when current information becomes more than twelve months old. Appraisals obtained provide “as-is” values. When current evaluations or appraisals are not available, value may be determined using the present value of expected future cash flows discounted at the loans effective interest rate. When a current evaluation or an appraised value is not available and there is no observable market price, the Company records the loan as nonrecurring Level 3. The following table presents the fair value of assets evaluated on a nonrecurring basis as of September 30, 2012 and December 31, 2011.


	Carrying Value as of		Quoted Market Price in Active Markets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
September 30, 2012
Loans held for sale	$	3,947,329	$	—	$	3,947,329	$	—
Impaired Loans:
Construction and land development		5,367		—		5,367		—
Real estate - mortgage		—		—		—		—
Real estate - other		1,150,228		—		—		1,150,228
Commercial and industrial		—		—		—		—
Consumer loans to individuals		—		—		—		—

Total	$	5,102,924	$	—	$	3,952,696	$	1,150,228


December 31, 2011
Loans held for sale	$	888,750	$	—	$	888,750	$	—
Impaired Loans:
Construction and land development		120,384		—		83,107		37,277
Real estate - mortgage		166,117		—		—		166,117
Real estate - other		390,282		—		—		390,282
Commercial and industrial		—		—		—		—
Consumer loans to individuals		21,787		—		—		21,787

Total	$	1,587,320	$	—	$	971,857	$	615,463

There were no other assets and no liabilities measured at fair value as of September 30, 2012 and December 31, 2011 on a nonrecurring basis. During the nine months ended September 30, 2012, one Level 3 impaired Real Estate – Mortgage loan was paid off . Additionally, one Level 3 impaired Construction loan, one Level 3 impaired Consumer loan, and one Level 3 Real Estate – Other loan were charged off. Loans held for sale at December 31, 2011 were sold during the nine months ending September 30, 2012, and the values reported for loans held for sale as of September 30, 2012 represent new assets in that category. There were no other transfers between valuation levels for assets measured for fair value on a non-recurring basis.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis at September 30, 2012.


	September 30, 2012		Valuation Techniques	Unobservable Inputs
Impaired loans
Real estate:
Real estate - other	$	1,150,228	Appraised Value	Value requires significant management judgment or estimation

The impaired loan representing Real Estate – Other is collateralized with first mortgages on multiple properties within Horry County, South Carolina. The impaired loan was valued by applying an average of a 42.3% discount to the appraised value of the full property, however appraised values are not timely, and will require updated appraisals; therefore, the fair valuation is considered to be Level 3.

Note 9 – Subsequent Events

In preparing these consolidated financial statements, subsequent events were evaluated through the time the consolidated financial statements were issued. Financial statements are considered issued when they are widely distributed to all shareholders and other financial statement users, or filed with the SEC.

On September 4, 2012, the Company submitted an application to the OCC for approval of a short distance relocation of its main office headquarters from 2305 Oak Street, Myrtle Beach, SC to 1012 38^th Avenue, Myrtle Beach, SC. Approval from the OCC was received October 9, 2012. A lease for the new location was entered into and will commence November 1, 2012. The initial ten-year term of the lease expires October 31, 2022. The Company has the option to extend the lease for up to three five-year terms. The total of the contractual lease payments for the initial ten-year term is expected to be $2,487,704.

The lease at the existing location expires October 31, 2012 and will transition to a month-to-month lease at $14,203 per month until the Bank completes the relocation.

In conjunction with applicable accounting standards, any other material subsequent events have been either recognized in the consolidated financial statements or disclosed in the notes to the consolidated financial statements.

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

The following discussion reviews our results of operations and assesses our financial condition. You should read the following discussion and analysis in conjunction with the accompanying consolidated financial statements. The commentary should be read in conjunction with the discussion of forward-looking statements, the consolidated financial statements, and the related notes and the other statistical information included in this report.

DISCUSSION OF FORWARD-LOOKING STATEMENTS

This report contains statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may relate to our financial condition, results of operation, plans, objectives, or future performance. These statements are based on many assumptions and estimates and are not guarantees of future performance. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. The words “may,” “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “believe,” “continue,” “assume,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements. Potential risks and uncertainties that could cause our actual results to differ from those anticipated in our forward-looking statements include, but are not limited to, those described in our Annual Report on Form 10-K for the year ended December 31, 2011 under Item 1A – Risk Factors and the following:

•

significant increases in competitive pressure in the banking and financial services industries;

•

changes in the interest rate environment which could reduce anticipated or actual margins;

•

changes in political conditions or the legislative or regulatory environment, including the effect of the recent financial reform legislation on the banking and financial services industries;

•

recent negative developments in the banking and financial services industries, the domestic and international credit markets, and the economy in general may continue to adversely impact our earnings and could increase its credit risk associated with the loan portfolios, and these adverse impacts could be exacerbated by potential negative economic developments that may occur if certain federal tax reductions expire and spending cuts go into effect as currently scheduled;

•

general economic conditions, either nationally or regionally and especially in our primary service area, becoming less favorable than expected, resulting in, among other things, a deterioration in credit quality;

•

reduced earnings due to higher credit losses, including losses in the sectors of our loan portfolio secured by real estate, may be greater than expected due to economic factors, including, but not limited to, declining real estate values, increasing interest rates, increasing unemployment, changes in payment behavior or other factors;

•

results of examinations by our regulatory authorities, including the possibility that the regulatory authorities may, among other things, require us to increase our allowance for loan losses or write down assets;

•

restrictions or conditions imposed by our regulators on our operations may make it more difficult for us to achieve our goals, including the potential that the regulatory agencies may require higher levels of capital above the current standard regulatory - mandated minimums, including the impact of the proposed capital rules under Basel III.

•

changes occurring in business conditions and inflation;

•

changes in technology;

•

the level of allowance for loan loss and the lack of seasoning of our loan portfolio;

•

the rate of delinquencies and amounts of charge-offs;

•

the rates of loan growth;

•

adverse changes in asset quality and resulting credit risk-related losses and expenses;

•

changes in monetary and tax policies;

•

loss of consumer confidence and economic disruptions resulting from terrorist activities;

•

changes in the securities markets; and

•

other risks and uncertainties detailed from time to time in our filings with the Securities and Exchange Commission.

These risks are exacerbated by the volatility and disruption experienced in national and international financial, capital, and credit markets during the last three years. Beginning in 2008 and continuing through 2011, the capital and credit markets experienced unprecedented levels of extended volatility and disruption. During the first nine months of 2012, economic conditions, while slow by historical standards, have shown signs of stabilization. However, as a result of U.S. government fiscal challenges, continued volatility in European sovereign and bank debt, slow improvement in domestic employment conditions, and the economic and monetary policy statements by the Board of Governors of the Federal Reserve System (the “Federal Reserve”), it is difficult to predict if this stabilization is indicative of a lasting trend. Current economic reports are mixed and the outlook for the remainder of 2012 is unclear and does not yet indicate expectations of a sustained recovery. There can be no assurance that the current level of economic activity will not continue to materially and adversely impact the U.S. economy in general, the banking industry, and our business, financial condition and results of operations, as well as our ability to maintain sufficient capital or other funding for liquidity and business purposes.

Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations will be achieved. We undertake no obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

Overview

Coastal Carolina Bancshares, Inc. is a bank holding company headquartered in Myrtle Beach, South Carolina. We were incorporated in February 2008 and our national bank subsidiary, Coastal Carolina National Bank, opened for business on June 8, 2009. The principal business activity of our bank is to provide retail and commercial banking services in Myrtle Beach and our surrounding market areas. Our deposits are insured by the FDIC.

We completed our stock offering in June 2009, upon the issuance of 2,180,000 shares for gross proceeds of $21.8 million, pursuant to a closing in June 2009. We capitalized the bank with $19.9 million of the proceeds from the stock offering.

Like most community banks, we derive most of our income from interest we receive on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on the majority of which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits and borrowings. Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities.

There are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible. We establish and maintain this allowance by charging a provision for loan losses against our earnings. In the following section we have included a detailed discussion of this process.

The following discussion describes our results of operations for the three and nine months ended September 30, 2012 and 2011 and also analyzes our financial condition as of September 30, 2012 and December 31, 2011.

Critical Accounting Policies

We have adopted various accounting policies, which govern the application of accounting principles generally accepted in the United States of America in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to our audited consolidated financial statements as of December 31, 2011, as filed in our Annual Report on Form 10-K.

Certain accounting policies involve significant judgments and assumptions by us that may have a material impact on the carrying value of certain assets and liabilities. We consider such accounting policies to be critical accounting policies. The judgments and assumptions we use are based on historical experience and other factors, which we believe are reasonable under the circumstances. Because of the nature of the judgments and assumptions we make, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of our assets and liabilities and our results of operations.

Allowance for Loan Losses

We believe the allowance for loan losses is the critical accounting policy that requires the most significant judgment and estimates used in preparation of our consolidated financial statements. Some of the more critical judgments supporting the amount of our allowance for loan losses include judgments about the credit worthiness of borrowers, the estimated value of the underlying collateral, assumptions about cash flow, determination of loss factors for estimating credit losses, and the impact of current events, conditions, and other factors impacting the level of probable inherent losses. Under different conditions, the actual amount of credit losses incurred by us may be different from management’s estimates provided in our consolidated financial statements. Refer to the portion of this discussion that addresses our allowance for loan losses for a more complete discussion of our processes and methodology for determining our allowance for loan losses.

Income Taxes

We use assumptions and estimates in determining income taxes payable or refundable for the current year, deferred income tax liabilities and assets for events recognized differently in our consolidated financial statements and income tax returns, and income tax benefit or expense. Determining these amounts requires analysis of certain transactions and interpretation of tax laws and regulations. Management exercises judgment in evaluating the amount and timing of recognition of resulting tax liabilities and assets. These judgments and estimates are reevaluated on a continual basis as regulatory and business factors change. Valuation allowances are established to reduce deferred tax assets if it is determined to be possible that all or some portion of the potential deferred tax asset will not be realized. We believe our loss position may adversely impact our ability to recognize the full benefit of our deferred tax asset. Therefore, we currently have placed a valuation allowance for our full deferred tax asset. No assurance can be given that either

the tax returns submitted by us or the income tax reported on the financial statements will not be adjusted by either adverse rulings by the United States Tax Court, changes in the tax code, or assessments made by the Internal Revenue Service. We are subject to potential adverse adjustments, including, but not limited to, an increase in the statutory federal or state income tax rates, the permanent non-deductibility of amounts currently considered deductible either now or in future periods, and the dependency on the generation of future taxable income, including capital gains, in order to ultimately realize deferred income tax assets.

Recent Accounting and Regulatory Developments

The following is a summary of recent accounting and regulatory developments:

•

In June 2012, The Federal Reserve approved three notices of proposed rulemaking (“NPRs”) to, among other things, implement the Basel III minimum capital requirements and capital conservation buffer. The three NPRs are expected to be published jointly by the Federal Reserve, the FDIC and the OCC after each agency has completed its approval process. The comment period on the NPRs expired on October 22, 2012. If approved in their current form, the NPRs would be effective over a phased-in period from 2013 to 2019. We are in the process of evaluating the impact of the proposed rules on the Company and the Bank.

•

On April 5, 2012, the Jumpstart Our Business Startups Act (the “JOBS Act”) was signed into law. The JOBS Act is intended to make it easier for startups and small businesses to raise funds. The SEC will have 270 days to interpret the basic concepts in the JOBS Act and turn them into practical regulations. The JOBS Act is a significant change to securities regulations, including the raising the shareholders of record thresholds that require public registration and reporting. The JOBS Act eases certain aspects of the initial public offering process and relaxes certain reporting obligations for the post-IPC EGC. The law is not expected to have a material effect on the financial statements or results of operations.

•

In February 2012, the SEC Chief Accountant told the IASB Advisory Council the adoption of IFRS continues to be delayed. The SEC staff is in the final stages of writing their next report on U.S. adoption of IFRS. However, it is anticipated a decision will not be made until late 2012. The adoption of IFRS is expected to have an impact on the financial statements but the effects are still unknown.

•

In December 2011, the Committee of Sponsoring Organizations (“COSO”) released a draft update of the 1992 Internal Control-Integrated Framework. The public comment period ended March 31, 2012 and the final updated Framework is slated to be released in the first quarter of 2013. The changes are not expected to affect the financial statements or results of operations.

•

On December 5, 2010, the comment period closed on the FASB’s proposed ASU No. 1850-100, Leases. The draft requires lessees to recognize assets and liabilities arising from lease contracts on their balance sheet that historically would have been off-balance sheet under operating lease accounting guidance. The IASB and FASB have continued discussing the appropriate expense recognition methods and finally came to agreement on June 13, 2012. Before issuing the final document, the FASB intends to expose for public comment proposed amendments. The final ASU is expected to affect the financial statements.

Results of Operations

Our primary source of revenue is net interest income. Net interest income is the difference between income earned on interest-bearing assets and interest paid on deposits and borrowings used to support such assets. The level of net interest income is determined by the balances of interest-earning assets and interest-bearing liabilities and corresponding interest rates earned and paid on those assets and liabilities, respectively. In addition to the volume of and corresponding interest rates associated with these interest-earning assets and interest-bearing liabilities, net interest income is affected by the timing of the repricing of these interest-earning assets and interest-bearing liabilities.

Three months ended September 30, 2012 and 2011

We recorded net income of $117,749, or $0.05 per share, for the three months ended September 30, 2012, compared to a net loss of $41,183, or a loss of $0.02 per share, for the three months ended September 30, 2011. Interest income was $998,582 and $876,876 for the three months ended September 30, 2012 and 2011, respectively. The increase in interest income is attributed to the larger loan portfolio maintained by the bank in 2012, offset by less interest income received on investments and interest bearing bank deposits. Interest income for the three months ended September 30, 2012 was comprised of $835,164 earned on loans, $153,767 earned on investment securities, and $9,651 earned on fed funds sold and interest bearing bank deposits.

Interest expense was $172,037 for the three months ended September 30, 2012, compared to $205,897 for the three months ended September 30, 2011. The decrease in interest expense is attributed to a reduction in deposit rates. Our net interest spread and net interest margin were 3.25% and 3.43%, respectively, for the three months ended September 30, 2012, compared to 2.78% and 3.03%,

respectively, for the three months ended September 30, 2011. We are achieving higher yields on earning assets due to loan growth, as lower yielding liquidity has been redeployed into higher yielding loans. We are also achieving lower costs associated with deposit liabilities.

There was no loan loss provision for the three months ended September 30, 2012, which is driven primarily by loan growth, non-performing loans, and a historical loss and environmental analysis, compared to $61,474 for the three months ended September 30, 2011. The decrease in loan loss provision is attributed primarily to slower year to date loan growth in 2012 compared to 2011 combined with higher specific reserves needed in 2011 for non-performing loans.

Non-interest income was $177,635 for the three months ended September 30, 2012, of which $7,695 came from service charges on deposits, $56,624 came from gains on the sale of mortgage loans, and $103,109 came from gains on sale of investment securities. For the three months ended September 30, 2011, non-interest income was $197,652, of which $13,194 came from service charges on deposits and $168,089 came from gains on the sale of investment securities. There were no gains on the sale of mortgage loans during the three months ended September 30, 2011. Service charge fee income has decreased due to a reduction in consumer NSF activity. Non-interest expense was $886,431 and $848,340 for the three months ended September 30, 2012 and 2011, respectively. The increases are primarily due to regulatory assessments, as well as occupancy and equipment, marketing and business development, and other expense increases related to expansion efforts and growth.

Nine months ended September 30, 2012 and 2011

We incurred a net loss of $57,301, or a loss of $0.03 per share, for the nine months ended September 30, 2012, compared to a net loss of $1,206,657, or a loss of $0.55 per share, for the nine months ended September 30, 2011. Interest income was $2,888,070 and $2,284,440 for the nine months ended September 30, 2012 and 2011, respectively. The increase in interest income is attributed to the larger loan portfolio maintained by the bank in 2012, offset by less interest income received on investments and interest bearing bank deposits. Interest income for the nine months ended September 30, 2012 was comprised of $2,408,430 earned on loans, $447,169 earned on investment securities, and $32,471 earned on fed funds sold and interest bearing bank deposits.

Interest expense was $533,659 for the nine months ended September 30, 2012, compared to $632,644 for the nine months ended September 30, 2011. The decrease in interest expense is attributed to a reduction in deposit rates. Our net interest spread and net interest margin were 3.11% and 3.29%, respectively, for the nine months ended September 30, 2012, compared to 2.50% and 2.78%, respectively, for the nine months ended September 30, 2011. We are achieving higher yields on earning assets due to loan growth, as lower yielding liquidity has been redeployed into higher yielding loans. We are also achieving lower costs associated with deposit liabilities, despite the growth in deposits.

The loan loss provision, which is driven primarily by loan growth, non-performing loans, and a historical loss and environmental analysis, was $14,094 for the nine months ended September 30, 2012, compared to $556,897 for the nine months ended September 30, 2011. The decrease in loan loss provision is attributed primarily to slower year to date loan growth in 2012 compared to 2011 combined with higher specific reserves needed in 2011 for non-performing loans. To further explain, criticized loans typically require a higher loan loss reserve. At September 30, 2011, our criticized loan balances were $4.6 million and carried a loan loss reserve of $417,005. As of September 30, 2012, our criticized loan balances had decreased to $2.5 million and require a reserve of $276,113. Although we have experienced loan growth in 2012 that would typically require provisions to the loan loss reserve, the improvements in our criticized loan balances created an excess reserve that negated the need to add more loan loss provision to the reserve balances.

Non-interest income was $341,501 for the nine months ended September 30, 2012, of which $33,565 came from service charges on deposits, $102,140 came from gains on the sale of mortgage loans, and $162,416 came from gains on sale of investments. For the nine months ended September 30, 2011, non-interest income was $361,935, of which $26,676 came from service charges on deposits, $8,629 came from gains on the sale of mortgage loans, and $297,585 came from gains on the sale of investment securities. Mortgage loan refinancing activity has increased significantly in 2012, resulting in an increase in premiums recognized on the sale of those loans in the secondary market. Conversely, we have sold less investment securities during the first nine months of 2012 resulting in less investment gains on sale compared to the same period in 2011. Additionally, the Bank received $15,891 on a fully depreciated bank vehicle that was disposed during the nine months ended September 30, 2012. Non-interest expense was $2,739,119 and $2,663,491 for the nine months ended September 30, 2012 and 2011, respectively. Employee salaries and benefit expenses have decreased while data processing, professional services, including an executive search firm, shareholder communications expense, regulatory assessment expense, and business development expenses have increased during the nine months ended September 30, 2012 compared to the same time period in 2011.

Assets and Liabilities

General

Total assets as of September 30, 2012 were $99.6 million, representing an increase of $5.2 million, or 5.5% compared to $94.4 million as of December 31, 2011. The increase in assets is due primarily to net loan growth of $5.1 million, which was funded primarily by

deposit growth of $4.5 million. At September 30, 2012, total assets consisted principally of $13.4 million in cash and cash equivalents, $24.3 million in available-for-sale investment securities, $3.9 million in mortgage loans held for sale and $56.5 million in net loans. Net loans at December 31, 2011 were $51.4 million. The primary source of funding is deposits that are acquired locally. Liabilities at September 30, 2012 totaled $85.1 million, represented almost entirely by retail customer deposits totaling $84.3 million. Liabilities as of December 31, 2011 totaled $80.3 million, including $79.8 million in deposits. At September 30, 2012, shareholders’ equity was $14.5 million, compared to $14.1 million as of December 31, 2011. The reason for the increase in shareholders’ equity is the increase in market value of the investment portfolio, which results in unrealized gains recognized in shareholder’ equity. Book value per share was $6.61 at September 30, 2012, compared to $6.43 as of December 31, 2011.

Loans

Loans typically provide higher interest yields than other types of interest-earning assets. Net loans have increased $5.1 million, or 9.9%, to $56.5 million, during the nine months ended September 30, 2012, primarily in the categories of Construction and Land Development, Real Estate – Other, and Consumer loans, offset by a decrease in Real Estate - Residential Mortgage and Commercial and Industrial loans, compared to $51.4 million as of December 31, 2011. The following table summarizes the composition of our loan portfolio as of September 30, 2012 and December 31, 2011.


	September 30, 2012			Percentage of Total			December 31, 2011			Percentage of Total
Construction and land development	$	8,361,129			14.51	%	$	4,875,191			9.26	%
Real estate - residential mortgage		18,279,690			31.72			19,628,339			37.29
Real estate - other		25,680,592			44.55			21,783,860			41.38
Commercial and industrial		2,189,638			3.80			4,437,718			8.43
Consumer and other		3,123,398			5.42			1,914,289			3.64

Gross loans		57,634,447			100.00	%		52,639,397			100.00	%
Allowance for loan losses		(1,000,194	)		—			(1,091,877	)		—
Deferred loan fees, net		(117,086	)		—			(132,311	)		—

Total loans, net	$	56,517,167			—		$	51,415,209			—

Loans held for sale are represented by 1-4 family residential mortgage loans that are pending sale in the secondary market. The volume of these loans has increased in 2012 with $3.9 million held for sale as of September 30, 2012 compared to $888,750 at December 31, 2011.

Classified Loans

Classified loans are performing loans with elevated levels of credit risk. These loans are assigned credit risk grades of substandard or worse. The Bank’s classified loans decreased during the first nine months of 2012 from $3,337,162 as of December 31, 2011 to $2,667,361 as of September 30, 2012, primarily due to the payoff of one loan relationship.

Nonperforming Loans

At September 30, 2012, nonaccrual loans totaled $5,367, related to one lending relationship, compared to $698,570 in nonaccrual loans as of December 31, 2011. There were no accruing loans which were contractually past due 90 days or more as to principal or interest payments at September 30, 2012 and December 31, 2011. Generally, a loan will be placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the loan is doubtful. The nonaccrual loan relationship is considered impaired.

Impaired loans as of September 30, 2012 totaled $1,155,595 and consisted of one large classified loan totaling $1,150,228 and the one loan on nonaccrual status totaling $5,367, compared to impaired loans totaling $278,510 at September 30, 2011.

As of September 30, 2012, we were not aware of any other loans that were not already considered for impairment or categorized as impaired or on nonaccrual.

Provision and Allowance for Loan Losses

The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible. Additions to the allowance are often the result of growth in the loan portfolio. Additionally, our judgment as to the adequacy of the allowance for loan losses is based on an ongoing review of the quality, mix, and size of our overall loan

portfolio. We make a number of assumptions regarding current portfolio and economic conditions. We consider our historical loan loss experience, the loan loss experience of our peers, and any specific problem loans and commitments that may affect the borrower’s ability to pay. We believe the assumptions we have made to be reasonable, but which may or may not prove to be accurate.

Periodically, we will adjust the amount of the allowance based on changing circumstances. We will charge recognized losses to the allowance and add subsequent recoveries back to the allowance for loan losses. There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period.

We have established an allowance for loan losses through a provision for loan losses charged to expense on our consolidated statement of operations. The allowance for loan losses was $1,000,194 as of September 30, 2012, or 1.74% of gross loans outstanding, compared to $1,091,877 as of December 31, 2011, or 2.07% of gross loans outstanding. The small decline is the result of charging off two loans in the second quarter of 2012 and one loan in the third quarter of 2012. Total provision expense for the nine months ended September 30, 2012 was $14,094, compared to $556,897 for the nine months ended September 30, 2011. The decrease in provision expense in 2012 compared to 2011 was primarily due to less growth in the loan portfolio and additional provision in 2011 needed for classified and nonperforming loan relationships.

During the first nine months of 2012, the Bank charged-off one consumer loan totaling $18,680, one construction and land development loan totaling $37,277, and one real estate – other loan totaling $49,820. Total charge-offs for the first nine months of 2012 were $105,777. There were no charge-offs during the first nine months of 2011. As of September 30, 2012, management considered the allowance for loan losses to be adequate and sufficient to meet presently known and inherent losses in the loan portfolio.

Deposits

Our primary source of funds for loans and investments is the funds obtained through our customer deposits. At September 30, 2012, we had $84.3 million in deposits, representing an increase of $4.5 million from December 31, 2011. Our deposits as of September 30, 2012 consisted primarily of $11.3 million in demand deposit accounts, $38.8 million in certificates of deposit, and $34.2 million in savings and money market accounts. As of September 30, 2012, we have no brokered or wholesale deposits and no borrowings.

Liquidity

Liquidity represents the ability of a company to convert assets into cash or cash equivalents without significant loss, and the ability to raise additional funds by increasing liabilities. For an operating bank, liquidity represents the ability to provide steady sources of funds for loan commitments and investment activities, as well as to maintain sufficient funds to cover deposit withdrawals and payment of debt and operating obligations. Liquidity management involves monitoring our sources and uses of funds in order to meet our day-to-day cash flow requirements while maximizing profits. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control. For example, the timing of maturities of our investment portfolio is fairly predictable and subject to a high degree of control at the time investment decisions are made. However, net deposit inflows and outflows are far less predictable and are not subject to the same degree of control.

Our primary sources of liquidity are deposits, scheduled repayments on our loans, and interest/principal payments received on and maturities of our investments. We plan to meet our future cash needs through the generation of deposits. Occasionally, we might sell investment securities in connection with the management of our interest sensitivity gap or to manage cash availability. We may also utilize our cash and due from banks and federal funds sold to meet liquidity requirements as needed. In addition, we have the ability, on a short-term basis, to purchase federal funds from other financial institutions or borrow advances from the FHLB of Atlanta.

As of September 30, 2012, our primary sources of liquidity included cash, non-interest and interest-bearing deposits and federal funds sold with financial institutions totaling $13.4 million. In addition, the fair value of our available for sale investment portfolio was $24.3 million as of September 30, 2012. Our lines of credit available with correspondent banks total $8.0 million with no outstanding principal or interest on these lines at September 30, 2012 and are unsecured. These lines may be withdrawn at the discretion of the correspondent financial institutions. Our credit availability at the FHLB was $9.58 million as of September 30, 2012 and requires collateralization by eligible investment securities or loans. We believe our liquidity levels are adequate to meet our operating needs.

Off-Balance Sheet Risk

Through the operations of our bank, we have made contractual commitments to extend credit in the ordinary course of our business activities. These commitments are legally binding agreements to lend money to our customers at predetermined interest rates for a specified period of time. At September 30, 2012, we had issued commitments to extend credit of $8.4 million through various types of lending arrangements, compared to $10.1 million as of December 31, 2011. We evaluate each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, and commercial and residential real estate. We manage the credit risk on these commitments by subjecting them to normal underwriting and risk management processes.

Capital Resources

Total shareholders’ equity was $14.5 million at September 30, 2012 compared to $14.1 million at December 31, 2011. The increase is the result of increases to the market value of the investment portfolio, which resulted in unrealized gains recognized in shareholders’ equity.

Our bank and the Company are subject to various regulatory capital requirements administered by the federal banking agencies. However, the Federal Reserve guidelines contain an exemption from the capital requirements for “small bank holding companies” which in 2006 were amended to cover most bank holding companies with less than $500 million in total assets that do not have a material amount of debt or equity securities outstanding registered with the SEC. Since our assets are less than $500 million and our stock is not registered under Section 12 of the Securities Exchange Act of 1934, we believe our Company qualifies as a small bank holding company and is exempt from the capital requirements. Nevertheless, our bank remains subject to these capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the bank must meet specific capital guidelines that involve quantitative measures of the bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The bank’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Regardless, our bank is “well capitalized” under these minimum capital requirements as set per bank regulatory agencies.

Under the capital adequacy guidelines, regulatory capital is classified into two tiers. These guidelines require an institution to maintain a certain level of Tier 1 and Tier 2 capital to risk-weighted assets. Tier 1 capital consists of common shareholders’ equity, excluding the unrealized gain or loss on securities available for sale, minus certain intangible assets. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100% based on the risks believed to be inherent in the type of asset. Tier 2 capital consists of Tier 1 capital plus the general reserve for loan losses, subject to certain limitations. A third capital ratio that is closely monitored, known as the Tier 1 Leverage Ratio, measures Tier 1 capital as a percentage of average assets during the quarter.

At the bank level, we are subject to various regulatory capital requirements administered by the federal banking agencies. To be considered “adequately capitalized” under these capital guidelines, we must maintain a minimum total risk-based capital of 8%, with at least 4% being Tier 1 capital. In addition, we must maintain a minimum Tier 1 leverage ratio of at least 4%. To be considered “well-capitalized,” we must maintain total risk-based capital of at least 10%, Tier 1 capital of at least 6%, and a leverage ratio of at least 5%.

In approving the bank’s application for deposit insurance, the FDIC required that the bank maintain a leverage ratio of at least 8% during the bank’s “de novo” period. In addition, the business plan submitted as part of our application with the OCC to obtain a national bank charter calls for the Bank to maintain a Tier 1 risked-based capital ratio of at least 8% and a total risk-based capital ratio of 12% during the Bank’s “de novo” period.”

The bank exceeded its minimum regulatory capital ratios as of September 30, 2012 and December 31, 2011, as well as the ratios to be considered “well capitalized.”

The following table sets forth the bank’s various capital ratios at September 30, 2012 and December 31, 2011:


(Unaudited)	Tier 1 Leverage			Tier 1 Risk-Based			Total Risk-Based
Minimum Required		4.00	%		4.00	%		8.00	%
Minimum Required to be well capitalized		5.00	%		6.00	%		10.00	%

Actual Ratios at September 30, 2012
Coastal Carolina National Bank		13.74	%		22.37	%		23.63	%
Consolidated		14.41	%		23.65	%		24.91	%

Actual Ratios at December 31, 2011
Coastal Carolina National Bank		14.14	%		24.64	%		25.89	%
Consolidated		14.87	%		26.16	%		27.42	%

We believe our capital is sufficient to fund the activities of the bank as we grow. As of September 30, 2012, there were no significant firm commitments outstanding for capital expenditures.

In December 2010, the Basel Committee released its final framework for strengthening international capital and liquidity regulation, now officially identified by the Basel Committee as “Basel III”. Basel III, if implemented by the U.S. banking agencies and fully phased-in, would require certain bank holding companies and their bank subsidiaries to maintain substantially more capital, with a greater emphasis on common equity. On June 8, 2012, the Federal Reserve approved three NPRs to, among other things, implement the Basel III minimum capital requirements (raising the minimum Tier 1 common equity ratio to 4.5% and minimum Tier 1 equity ratio to 6.0% with full implementation by January 2015) and capital conservation buffer of common equity of an additional 2.5% with implementation by January 2019. The three NPRs are expected to be published jointly by the Federal Reserve, the FDIC, and the OCC after each agency has completed its approval process. The comment period on the NPRs expired on October 22, 2012. If approved in their current form, the NPRs would be effective over a phased-in period from 2013 to 2019. We are in the process of evaluating the impact of the proposed rules on the Company and the Bank.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

Not applicable.

Item 4. Controls and Procedures

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Exchange Act Rule 15d-15(e). Based upon that evaluation, our Principal Executive Officer and Principal Financial Officer have concluded that our current disclosure controls and procedures are effective as of September 30, 2012. There have been no significant changes in our internal controls over financial reporting during the fiscal quarter ended September 30, 2012 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

The design of any system of controls and procedures is based in part upon certain assumptions about the likelihood of future events. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

Part II – Other Information

Item 1. Legal Proceedings

There are no material pending legal proceedings to which we are a party or of which any of our property is the subject.

Item 1A. Risk Factors

Not applicable.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

No applicable.

Item 3. Default Upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

Not applicable.

Item 6. Exhibits


31.1		Rule 15d-14(a) Certification of the Principal Executive Officer.

31.2		Rule 15d-14(a) Certification of the Principal Financial Officer.

32		Section 1350 Certifications.

101		The following materials from the Quarterly Report on Form 10-Q of Carolina Coastal Bancshares, Inc. for the quarter ended September 30, 2012, formatted in eXtensible Business Reporting Language (XBRL): (i) Condensed Consolidated Balance Sheets, (ii) Condensed Consolidated Statements of Operations and Comprehensive Loss, (iii) Condensed Consolidated Statement of Shareholders’ Equity, (iv) Condensed Consolidated Statements of Cash Flows and (v) Notes to Consolidated Financial Statements.

Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

SIGNATURES

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


	Coastal Carolina Bancshares, Inc.

Date: November 13, 2012	By:	/s/ Laurence S. Bolchoz, Jr.
	Laurence S. Bolchoz, Jr.
	President and Chief Executive Officer
	(Principal Executive Officer)

	By:	/s/ Dawn M. Kinard
	Dawn M. Kinard
	Senior Vice President and Chief Financial Officer
	(Principal Financial and Accounting Officer)

EXHIBIT INDEX


Exhibit Number		Description

31.1		Rule 15d-14(a) Certification of the Principal Executive Officer.

31.2		Rule 15d-14(a) Certification of the Principal Financial Officer.

32		Section 1350 Certifications.

101		The following materials from the Quarterly Report on Form 10-Q of Carolina Coastal Bancshares, Inc. for the quarter ended September 30, 2012, formatted in eXtensible Business Reporting Language (XBRL): (i) Condensed Consolidated Balance Sheets, (ii) Condensed Consolidated Statements of Operations and Comprehensive Loss, (iii) Condensed Consolidated Statement of Shareholders’ Equity, (iv) Condensed Consolidated Statements of Cash Flows and (v) Notes to Consolidated Financial Statements.

Large accelerated filer

Accelerated filer

Non-accelerated filer

¨ (Do not check if a smaller reporting company)

Smaller reporting company

Coastal Carolina Bancshares, Inc. 10-Q