UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(MARK ONE)

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

For the Quarterly Period ended September 30, 2011

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]

For the Transition Period from _________to_________

Commission File No. 000-28333

COASTAL BANKING COMPANY, INC.

(Exact name of registrant as specified in its charter)

South Carolina		58-2455445
(State or other jurisdiction		(I.R.S. Employer
of incorporation)		Identification No.)

36 Sea Island Parkway

Beaufort, SC 29907

(Address of principal executive

offices, including zip code)

(843) 522-1228

(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 of 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that the registrant was required to file such report), and (2) has been subject to such filing requirements for the past 90 days. YES þ NO o

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

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

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

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

State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: 2,595,207 shares of common stock, $.01 par value, were issued and outstanding on November 14, 2011.

Index

		Page No.
PART I. FINANCIAL INFORMATION

Item 1.	Financial Statements

	Consolidated Balance Sheets – September 30, 2011 and December 31, 2010	3

	Consolidated Statements of Operations– Three Months and Nine Months Ended September 30, 2011 and 2010	4

	Consolidated Statements of Comprehensive Loss – Nine Months Ended September 30, 2011 and 2010	5

	Consolidated Statements of Cash Flows - Nine Months Ended September 30, 2011 and 2010	6

	Notes to Consolidated Financial Statements	7

Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	26

Item 3.	Quantitative and Qualitative Disclosure About Market Risk	41

Item 4.	Controls and Procedures	41

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	42

Item 1A.	Risk Factors	42

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	42

Item 3.	Defaults Upon Senior Securities	42

Item 4.	Removed and Reserved	42

Item 5.	Other Information	42

Item 6.	Exhibits	43

PART 1. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Coastal Banking Company

Consolidated Balance Sheets

September 30, 2011 and December 31, 2010

	September 30,			December 31,
	2011			2010
	(unaudited)			(audited)
Assets
Cash and due from banks	$	2,971,024		$	1,823,132
Interest-bearing deposits in banks		401,903			406,700
Federal funds sold		125,317			185,258
Securities available for sale, at fair value		29,810,135			37,720,495
Securities held to maturity, at cost		––			2,000,000
Restricted equity securities, at cost		4,242,200			4,472,500
Loans held for sale, at fair value		66,523,424			55,336,007

Loans, net of unearned income		260,789,176			267,600,402
Less allowance for loan losses		5,785,218			6,007,690
Loans, net		255,003,958			261,592,712

Premises and equipment, net		7,298,090			7,380,238
Cash surrender value of life insurance		1,954,434			1,894,971
Intangible assets		27,937			62,452
Other real estate owned		14,336,412			14,452,043
Loan sales receivable		50,409,855			31,505,783
Other assets		8,042,557			8,244,448
Total assets	$	441,147,246		$	427,076,739
Liabilities and Shareholders’ Equity
Deposits:
Noninterest-bearing	$	23,227,265		$	18,948,135
Interest-bearing		317,702,115			327,102,144
Total deposits		340,929,380			346,050,279

Federal funds purchased		3,487,000			––
Other borrowings		51,500,000			37,000,000
Junior subordinated debentures		7,217,000			7,217,000
Other liabilities		5,609,903			3,774,705
Total liabilities		408,743,283			394,041,984

Commitments and contingencies

Shareholders’ Equity:
Preferred stock, par value $.01; 10,000,000 shares authorized; 9,950 shares issued and outstanding at September 30, 2011 and December 31, 2010		9,633,759			9,581,703
Common stock, par value $.01; 10,000,000 shares authorized; 2,595,207 shares issued and outstanding at September 30, 2011; 2,588,707 shares issued and outstanding at December 31, 2010		25,952			25,887
Additional paid-in capital		41,359,009			41,247,995
Accumulated deficit		(19,260,622	)		(18,300,457	)
Accumulated other comprehensive income		645,865			479,627
Total shareholders’ equity		32,403,963			33,034,755
Total liabilities and shareholders’ equity	$	441,147,246		$	427,076,739

See accompanying notes to unaudited consolidated financial statements.

Coastal Banking Company

Consolidated Statements of Operations

For the Three Months and Nine Months Ended September 30, 2011 and 2010

(Unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
Interest income:
Interest and fees on loans	$	4,091,437		$	4,423,017		$	11,943,975		$	13,175,370
Interest on taxable securities		276,542			413,321			927,023			1,541,381
Interest on nontaxable securities		50,879			53,957			152,736			179,429
Interest on deposits in other banks		1,451			1,844			10,788			6,283
Interest on federal funds sold		471			472			2,174			4,362
Total interest income		4,420,780			4,892,611			13,036,696			14,906,825

Interest expense:
Interest on deposits		919,529			1,312,345			2,901,731			4,543,630
Interest on junior subordinated debentures		102,600			101,048			300,350			297,047
Interest on other borrowings		234,972			322,545			819,124			959,045
Total interest expense		1,257,101			1,735,938			4,021,205			5,799,722

Net interest income		3,163,679			3,156,673			9,015,491			9,107,103
Provision for loan losses		703,512			1,360,517			1,715,039			2,445,930
Net interest income after provision for loan losses		2,460,167			1,796,156			7,300,452			6,661,173

Non-interest income:
Service charges on deposit accounts		92,373			114,245			302,690			352,040
Other service charges, commissions and fees		75,976			69,379			228,332			197,961
SBA loan income		907,324			40,762			2,730,891			182,961
Mortgage banking income		4,580,706			2,978,591			7,705,377			4,719,527
Gain on sale of securities available for sale		––			––			16,823			939,385
Income from investment in life insurance contracts		19,604			16,184			59,463			49,318
Other income		42,442			305			100,955			22,728
Total other income		5,718,425			3,219,466			11,144,531			6,463,920

Non-interest expenses:
Salaries and employee benefits		3,963,246			2,611,922			9,090,458			5,978,277
Occupancy and equipment expense		488,413			392,840			1,216,125			1,053,592
Advertising fees		640,751			15,246			715,552			96,731
Amortization of intangible assets		11,505			20,841			34,515			62,523
Audit fees		94,403			96,434			299,998			292,443
Data processing fees		291,412			269,650			815,915			734,183
Director fees		30,300			36,200			104,500			128,350
FDIC insurance expense		147,578			204,028			481,758			621,445
Legal and other professional fees		192,833			194,528			684,555			484,556
OCC examination fees		41,964			43,846			129,480			135,679
Other real estate expenses		1,254,073			1,112,010			2,691,283			3,230,922
Other operating		1,100,211			852,783			2,457,941			1,785,030
Total other expenses		8,256,689			5,850,328			18,722,080			14,603,731

Loss before income tax (benefits)		(78,097	)		(834,706	)		(277,097	)		(1,478,638	)
Income tax expense (benefit)		290,806			(338,217	)		257,890			47,786
Net loss	$	(368,903	)	$	(496,489	)	$	(534,987	)	$	(1,526,424	)

Preferred stock dividends		141,980			140,979			425,178			422,217
Net loss available to common shareholders	$	(510,883	)	$	(637,468	)	$	(960,165	)	$	(1,948,641	)
Basic and diluted loss per common share	$	(.20	)	$	(.25	)	$	(.37	)	$	(.76	)

See accompanying notes to unaudited consolidated financial statements.

Coastal Banking Company

Consolidated Statements of Comprehensive Loss

For the Nine Months Ended September 30, 2011 and 2010

(Unaudited)

	2011			2010
Net loss	$	(534,987	)	$	(1,526,424	)
Other comprehensive income (loss), net of tax:
Net unrealized holding gains arising during period, net of tax of $91,357 and $133,185		177,341			258,537
Reclassification adjustment for gains included in net loss, net of tax of $5,720 and $319,391		(11,103	)		(619,994	)
Total other comprehensive income (loss)		166,238			(361,457	)
Comprehensive loss	$	(368,749	)	$	(1,887,881	)

See accompanying notes to unaudited consolidated financial statements.

Coastal Banking Company

Consolidated Statements of Cash Flows

For the Nine Months Ended September 30, 2011 and 2010

(Unaudited)

	2011			2010
Cash flows from operating activities:
Net loss	$	(534,987	)	$	(1,526,424	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation, amortization and accretion		452,375			509,219
Amortization of intangible assets		34,515			62,523
Stock-based compensation expense		111,079			94,919
Provision for loan losses		1,715,039			2,445,930
Gain on sale of securities available for sale		(16,823	)		(939,385	)
Net increase in loan sales receivable		(18,904,072	)		(24,566,901	)
Write downs and losses on sale of other real estate owned		2,357,168			2,775,872
Proceeds from sales of other real estate owned		6,603,001			6,888,353
Increase in cash value of life insurance		(59,463	)		(49,318	)
Originations of mortgage loans held for sale		(650,685,644	)		(671,037,270	)
Proceeds from sales of mortgage loans held for sale		647,203,604			688,324,281
Net decrease in interest receivable		214,155			210,242
Net increase (decrease) in interest payable		167,368			(82,277	)
SBA loan income		(2,730,891	)		(182,961	)
Mortgage banking income		(7,705,377	)		(4,719,527	)
Net other operating activities		3,983,437			4,220,819
Net cash provided by (used in) operating activities		(17,795,516	)		2,428,095

Cash flows from investing activities:
Net (increase) decrease in interest-bearing deposits in banks		4,797			(3,037,325	)
Net decrease in federal funds sold		59,941			163,506
Proceeds from maturities of securities held to maturity		2,000,000			—
Proceeds from maturities of securities available for sale		8,021,947			11,584,369
Proceeds from sale of securities available for sale		1,104,487			21,154,370
Purchases of securities available for sale		(1,094,613	)		(14,835,580	)
Redemption of bank owned life insurance policies		—			5,581,295
Net change in restricted equity securities		230,300			344,000
Net (increase) decrease in loans		(3,970,823	)		3,594,548
Purchase of premises and equipment		(278,729	)		(163,272	)
Net cash provided by investing activities		6,077,307			24,385,911

Cash flows from financing activities:
Net decrease in deposits		(5,120,899	)		(12,193,435	)
Net increase in federal funds purchased		3,487,000			—
Proceeds from other borrowings		23,000,000			—
Repayment of other borrowings		(8,500,000	)		(14,250,000	)
Net cash provided by (used in) financing activities		12,866,101			(26,443,435	)

Net increase in cash and due from banks		1,147,892			370,571
Cash and due from banks at beginning of period		1,823,132			2,679,003
Cash and due from banks at end of period	$	2,971,024		$	3,049,574

Supplemental disclosures of cash flow information:
Cash paid during the year for interest	$	3,853,837		$	5,881,999
Cash paid during the year for income taxes	$	115,960		$	22,700

Noncash Transactions:
Principal balances of loans transferred to other real estate owned	$	8,844,538		$	5,914,363

See accompanying notes to unaudited consolidated financial statements.

Notes to Consolidated Financial Statements – September 30, 2011 and 2010 (Unaudited) and December 31, 2010

Note 1 - Basis of Presentation

Coastal Banking Company, Inc. (the “Company”) is organized under the laws of the State of South Carolina for the purpose of operating as a bank holding company for CBC National Bank (the “Bank”). The Bank commenced business on May 10, 2000 as Lowcountry National Bank. The Company acquired First National Bank of Nassau County, which began its operations in 1999, through its merger with First Capital Bank Holding Corporation on October 1, 2005. On October 27, 2006, the Company acquired the Meigs, Georgia office of the Bank through merger of Cairo Banking Co. with and into the Bank. On August 10, 2008, Lowcountry National Bank and First National Bank of Nassau County merged into one charter. Immediately after the merger, the name of the surviving bank was changed to CBC National Bank and the main office relocated to 1891 South 14th Street, Fernandina Beach, Nassau County, Florida. The Bank’s branches in South Carolina and Georgia continue to do business under the trade names “Lowcountry National Bank,” and “The Georgia Bank” in their respective markets. The Bank provides full commercial banking services to customers throughout Beaufort County, South Carolina; Nassau County, Florida; and Thomas County, Georgia and is subject to regulation by the Office of the Comptroller of the Currency (the “OCC”) and the Federal Deposit Insurance Corporation (the “FDIC”). The Company is subject to regulation by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”).

The Bank also has loan production offices in Savannah, Georgia and Jacksonville, Florida, as well as a residential mortgage banking division headquartered in Atlanta, Georgia. The mortgage banking division opened ten additional retail residential loan production offices during the second and third quarters of 2011 in California, Connecticut, Kansas, Maryland, Michigan, New York, and Ohio. The Company also has an investment in Coastal Banking Company Statutory Trust I (“Trust I”) and Coastal Banking Company Statutory Trust II (“Trust II”). Both trusts are special purpose subsidiaries organized for the sole purpose of issuing trust preferred securities.

The consolidated financial statements include the accounts of the Company and the Bank. All intercompany accounts and transactions have been eliminated in consolidation.

The accompanying financial statements have been prepared in accordance with the requirements for interim financial statements and, accordingly, they omit disclosures which would substantially duplicate those contained in the Annual Report on Form 10-K for the year ended December 31, 2010. The financial statements as of September 30, 2011 and for the interim periods ended September 30, 2011 and 2010 are unaudited and, in the opinion of management, include all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation. The results of operations for the three and nine months ended September 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. The financial information as of December 31, 2010 has been derived from the audited financial statements as of that date. For further information, refer to the financial statements and the notes included in the Company’s 2010 annual report to shareholders on Form 10-K as filed with the Securities and Exchange Commission.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates that affect the amounts of assets and liabilities and changes therein. Actual results could differ from those estimates.

Accounting Policies Recently Adopted

In May 2011, the FASB issued ASU No. 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS.” The provisions of ASU No. 2011-04 clarify the application of the highest and best use, and valuation premise concepts, preclude the application of blockage factors in the valuation of all financial instruments and include criteria for applying the fair value measurement principles to portfolios of financial instruments. The amendments additionally prescribe enhanced financial statement disclosures for Level 3 fair value measurements. The new amendments will be effective on January 1, 2012. The Company is currently assessing the impact of this guidance on its consolidated financial position and results of operations.

In June 2011, the FASB issued ASU No. 2011-05, “Presentation of Comprehensive Income.” The provisions of ASU 2011-05 provide new guidance that requires entities to report components of comprehensive income in either a continuous statement of comprehensive income or two separate but consecutive statements. This new accounting guidance will be effective for the Company for the three months ended March 31, 2012. The adoption of this guidance, which involves disclosures only, will not impact the Company’s consolidated financial position or results of operations.

Note 2 -Regulatory Oversight, Capital Adequacy, Operating Losses, Liquidity and Management’s Plans

Regulatory Oversight

The Bank entered into a formal agreement with the OCC on August 26, 2009 (the “Agreement”) that imposes certain operational and financial directives on the Bank. The specific directives of the Agreement address the credit risk in the Bank’s loan portfolio, action required to protect the Bank’s interest in criticized assets, adherence to the Bank’s written profit plan to improve and sustain earnings, limitations on the maximum allowable level of brokered deposits, excluding reciprocal CDARS deposits, and the establishment of a board level Compliance Committee to monitor the Bank’s adherence to the Agreement.

Additionally, in response to a request by the Federal Reserve Bank of Richmond, the Board of Directors of Coastal Banking Company, Inc. adopted a resolution on January 27, 2010. This resolution required that the Company obtain prior approval of the Federal Reserve Board before incurring additional debt, purchasing or redeeming its capital stock, or declaring or paying cash dividends to common shareholders. The resolution also required that the Company provide the Federal Reserve Bank with prior notification before using its cash assets for purposes other than investments in obligations or equity of the Bank, investments in short-term, liquid assets, or payment of normal and customary expenses, including regularly scheduled interest payments on existing debt.

On November 17, 2010 the Company entered into a Memorandum of Understanding (“MOU”), an informal enforcement action, with the Federal Reserve Bank of Richmond in lieu of the board resolution described above. The terms of the MOU are substantially similar to the terms of the Board Resolution. Generally, the MOU requires the Company to obtain prior approval of the Federal Reserve Bank before incurring additional debt, purchasing or redeeming its capital stock, or declaring or paying cash dividends on its securities, including dividends on its common stock and TARP preferred stock, and interest on its trust preferred securities. Additionally, the MOU requires the Company to comply with banking regulations that prohibit certain indemnification and severance payments and that require prior approval of any appointment of any new directors or the hiring or change in position of any senior executive officers of the Company. The MOU also requires the submission of quarterly progress reports.

As a result of the Agreement, and the MOU, the Bank and the Company are now operating under heightened regulatory scrutiny and monitoring. Management has taken aggressive steps to address the components of the Agreement and has frequent contact with the OCC as we work to improve our financial condition and comply with all regulatory directives. Monitoring of our progress by our regulators is much more frequent and includes interim on-site visits as well as ongoing telephone consultations. Management recognizes that failure to adequately address the Agreement and the MOU could result in additional actions by the banking regulators with the potential for more severe operating restrictions and oversight requirements, including, but not limited to, the issuance of a consent order and civil money penalties.

Capital Adequacy

As of September 30, 2011, the Bank exceeded all of the regulatory capital ratio levels to be categorized as “well capitalized.” In light of current market conditions and the Bank’s current risk profile, management has determined that the Bank must achieve and maintain a minimum ratio of total capital to risk-weighted assets of 12% and a minimum leverage ratio of 8% to be considered well capitalized under these market conditions. The Bank exceeded these internal capital ratios as well.

Key to our efforts to maintain existing capital adequacy is the need for the Bank to return to profitability through a focus on increasing core earnings and decreasing the levels of adversely classified and nonperforming assets. Management is pursuing a number of strategic alternatives to improve the core earnings of the Bank and to reduce the level of classified assets. Current market conditions for banking institutions, the overall uncertainty in financial markets and the Bank’s high level of nonperforming assets are potential barriers to the success of these strategies. If current adverse market factors continue for a prolonged period of time, new adverse market factors emerge, and/or the Bank is unable to successfully execute its plans or adequately address regulatory concerns in a sufficient and timely manner, it could have a material adverse effect on the Bank’s business, results of operations and financial position.

Operating Results

The Company recorded net loss of $535,000 for the nine months ended September 30, 2011 compared to net loss of $1,526,000 for the nine months ended September 30, 2010. The prior year loss reflects the favorable non recurring impact of a $939,000 gain on sale of marketable securities, partially offset by the unfavorable non recurring income tax expense of $423,000 from the early redemption of Bank Owned Life Insurance (BOLI) policies. During both years, we experienced excessive levels of nonperforming assets, which caused the Company to record increased carrying costs on foreclosed properties and losses on the sale of foreclosed properties. Carrying costs on foreclosed assets are expected to remain elevated during 2011 as the Company continues to liquidate these nonperforming assets. The current year to date net loss represents an improvement of $991,000 from the net loss of $1,526,000 for the nine months ended September 30, 2010. The current quarter net loss of $369,000 represents an improvement of $127,000 from the net loss of $496,000 for the three months ended September 30, 2010 as a result of lower provision for loan losses in 2011, partially offset by higher provision for income taxes.

Management has implemented a number of actions in an effort to improve earnings, including continued emphasis on non interest income from mortgage banking and small business lending activity, significant reductions to the cost of interest bearing liabilities and strict controls over other operating expenses. These actions have been effective in improving core earnings in 2010 and 2011; however, asset quality charges throughout the year continued to negatively impact earnings. Management will continue to focus on asset quality levels as concerns remain that the existing negative economic conditions may worsen, resulting in continued losses that will hinder our ability to return to profitability and further erode capital levels.

Liquidity

Management monitors liquidity on a daily basis and forecasts liquidity needs over a 90 day horizon in order to anticipate and provide for future needs. We also utilize a comprehensive contingency funding policy that uses several key liquidity ratios or metrics to define different stages of the Company’s overall liquidity position. This policy defines actions or strategies that are employed based on the liquidity position of the Company to reduce the risk of a future liquidity shortfall.

The primary sources of liquidity are cash and cash equivalents, deposits, scheduled repayments of loans, unpledged investment securities, available borrowing facilities and proceeds from loan sales receivable. Within deposits we utilize retail deposits from our branch locations, a modest level of brokered deposits, CDARS reciprocal deposits and deposits from other insured depository institutions. The Agreement requires that our brokered deposits, excluding reciprocal CDARs, not exceed 10% of our total deposits, which is consistent with our existing internal liquidity policy. As a result of our existing internal liquidity policy, we have been and anticipate continuing to be in compliance with the brokered deposit limitation provision of the Agreement. Although the FDIC Call Report defines CDARS reciprocal deposits as brokered deposits, CDARS reciprocal deposits are excluded from the brokered deposit limitation provision in the Agreement. At September 30, 2011 we have the capacity to raise up to an additional $11,210,000 in brokered deposits, if needed, and continue to remain in compliance with the 10% limitation in the Agreement. Our borrowing facilities include collateralized repurchase agreements and unsecured federal funds lines with correspondent banks, as well as borrowing agreements with the Federal Home Loan Bank of Atlanta and the Federal Reserve Bank collateralized by pledged loans and securities.

As of September 30, 2011, the Company had $146.3 million in total borrowing capacity, of which we had utilized $80.0 million or 54.7%, leaving remaining available liquidity of $66.3 million. Additionally, loans available for sale are considered by management as a key source of liquidity as a result of the speed with which these loans are sold and settled for cash. Management expects that, on average, loans originated for sale will be sold and converted to cash within 18 to 20 business days after the loan is originated. The balance of loans available for sale averaged just over $66 million during the first nine months of 2011. Accordingly, in the event of a liquidity crisis, we anticipate having the ability to slow or stop loan origination activity to allow the loans available for sale to convert into cash. Based on current and expected liquidity needs and sources, management expects the Company to be able to meet all obligations as they become due.

Note 3 – Losses Per Share

The following table sets forth the computation of basic and diluted losses per share for the three and nine months ended September 30.

	For the three months ended September 30,						For the nine months ended September 30,
	2011			2010			2011			2010
Net loss	$	(368,903	)	$	(496,489	)	$	(534,987	)	$	(1,526,424	)
Preferred stock dividends		(141,980	)		(140,979	)		(425,178	)		(422,217	)
Net loss available to common shareholders	$	(510,883	)	$	(637,468	)	$	(960,165	)	$	(1,948,641	)

Weighted average common shares		2,577,658			2,566,658			2,574,876			2,565,734
Effect of dilutive securities		3,221			8,334			3,179			8,575
Diluted average common shares		2,580,879			2,574,992			2,578,055			2,574,309

Losses per common share	$	(0.20	)	$	(0.25	)	$	(0.37	)	$	(0.76	)
Diluted losses per common share	$	(0.20	)	$	(0.25	)	$	(0.37	)	$	(0.76	)

Stock option shares in the amount of 213,011 and 230,174 at September 30, 2011 and 2010, respectively, were excluded from the diluted earnings per share calculation due to their anti-dilutive effect.

Note 4 – Investment Securities

Investment securities are as follows:

	September 30, 2011
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Available for sale
State and municipal securities	$	7,128,996	$	266,111	$	(51,300	)	$	7,343,807
Mortgage-backed securities		21,702,556		809,412		(45,640	)		22,466,328
	$	28,831,552	$	1,075,523	$	(96,940	)	$	29,810,135

	December 31, 2010
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Available for sale
State and municipal securities	$	7,132,172	$	51,893	$	(206,472	)	$	6,977,593
Mortgage-backed securities		29,861,615		914,063		(32,776	)		30,742,902
	$	36,993,787	$	965,956	$	(239,248	)	$	37,720,495
Held to maturity
Corporate debt securities	$	2,000,000	$	56,807	$	—		$	2,056,807
	$	2,000,000	$	56,807	$	—		$	2,056,807

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

Investment securities available for sale:

	Less than 12 Months					12 Months or More				Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
State and municipal securities	$	478,605	$	(3,974	)	$	453,485	$	(47,326)	$	932,090	$	(51,300	)
Mortgage-backed securities		4,913,003		(45,640	)		—		—		4,913,003		(45,640	)
Total	$	5,391,608	$	(49,614	)	$	453,485	$	(47,326)	$	5,845,093	$	(96,940	)

As of September 30, 2011, one individual security available for sale was in a continuous loss position for twelve months or more. The Company has reviewed this investment security in accordance with its accounting policy for other than temporary impairment and believes, based on industry analyst reports of the issuer, that the deterioration in value, as of September 30, 2011, was attributable to general market perceptions of unrated municipal issuers, and not due to the specific credit quality of the issuer. The unrealized loss is considered temporary because the security issuer carries an acceptable credit profile and the repayment sources of principal and interest are government backed. The Company has the ability and intent to hold this security until such time as the value recovers or the security matures.

Investment securities available for sale:

	Less than 12 Months					12 Months or More				Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
State and municipal securities	$	4,466,571	$	(206,472	)	$	—	$	—	$	4,466,571	$	(206,472	)
Mortgage-backed securities		4,879,208		(32,776	)		—		—		4,879,208		(32,776	)
Total	$	9,345,779	$	(239,248	)	$	—	$	—	$	9,345,779	$	(239,248	)

As of December 31, 2010, no individual securities available for sale were in a continuous loss position for twelve months or more and no securities held to maturity were in a loss position. The Company will review investment securities that are in an unrealized loss position in accordance with its accounting policy for other than temporary impairment by reviewing industry analyst reports and credit ratings on the specific securities. To the extent that any deterioration in value, as of the reporting date, was attributable to changes in market interest rates and not in the credit quality of the issuer, the unrealized losses would be considered temporary because the related security carries an acceptable investment grade and the repayment sources of principal and interest are government backed. The Company has the ability and intent to hold these securities until such time as the value recovers or the securities mature.

The amortized cost and estimated fair value of investment securities at September 30, 2011, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

	Amortized Cost		Fair Value
Available for sale
Due in one year or less	$	274,450	$	275,954
Due from one year to five years		1,001,359		1,021,800
Due from five to ten years		2,919,684		3,126,169
Due after ten years		2,933,503		2,919,884
Mortgage-backed securities		21,702,556		22,466,328
	$	28,831,552	$	29,810,135

Securities were pledged to secure public deposits and Federal Home Loan Bank borrowings with an amortized cost and fair value of $9,152,000 and $9,643,000, respectively, as of September 30, 2011 and $10,494,000 and $11,119,000, respectively, as of December 31, 2010. Pledged securities may not be sold without first pledging replacement securities and obtaining consent of the party to whom the securities are pledged.

Gains and losses on sales of securities available for sale consist of the following:

	For the Nine Months Ended September 30,
	2011		2010
Gross gains on sales of securities	$	16,823	$	939,385
Gross losses on sales of securities		—		—
Net realized gains on sales of securities available for sale	$	16,823	$	939,385

Note 5 — Loans and allowance for loan losses

The composition of loans is summarized as follows:

	September 30, 2011		December 31, 2010
Commercial and financial	$	9,178,971	$	10,120,015
Agricultural		151,000		151,000
Real estate – construction, commercial		45,022,956		51,272,575
Real estate – construction, residential		11,791,864		12,094,520
Real estate – mortgage, commercial		89,523,717		87,758,132
Real estate – mortgage, residential		103,344,674		103,852,157
Consumer installment loans		1,616,995		2,145,003
Other		158,999		207,000
Gross loans		260,789,176		267,600,402
Less: Allowance for loan losses		5,785,218		6,007,690
Net loans	$	255,003,958	$	261,592,712

The Bank grants loans and extensions of credit to individuals and a variety of businesses and corporations located in its general trade areas of Beaufort County, South Carolina, Nassau County, Florida and Thomas County, Georgia. Although the Bank has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by improved and unimproved real estate and is dependent upon the real estate market.

A loan is considered impaired, in accordance with the impairment accounting guidance (FASB ASC 310-10-35-16), when, based on current information and events, it is probable that the Company will be unable to collect all amounts due from the borrower in accordance with the contractual terms of the loan. Additionally, recent FASB guidance requires that by definition, all loans classified as troubled debt restructurings must also be classified as impaired. In cases where management believes a restructured loan will return all amounts due under the restructured loan terms, and those terms do not include the loss of any portion of the original principal balance, restructured loans are not internally classified, monitored or managed as impaired loans. Accordingly, GAAP reporting requirements result in a higher level of loans classified as impaired than are considered as impaired by management. Impaired loans as defined by GAAP are summarized as follows:

	September 30, 2011
(In thousands)	Recorded Investment		Unpaid Principal Balance		Recorded Allowance		Average Recorded Investment		Year to Date Interest Income Recognized
With no related allowance recorded:
Commercial, financial & agricultural	$	499	$	737	$	—	$	495	$	10
Real Estate - construction		7,441		9,370		—		7,436		89
Real estate - mortgage		6,731		7,550		—		7,397		235
With an allowance recorded:
Commercial, financial & agricultural		—		—		—		—		—
Real Estate - construction		678		739		270		678		—
Real estate - mortgage		10,353		10,546		1,415		11,068		210
Total impaired loans:
Commercial, financial & agricultural	$	499	$	737	$	—	$	495	$	10
Real Estate - construction	$	8,119	$	10,109	$	270	$	8,114	$	89
Real estate - mortgage	$	17,084	$	18,096	$	1,415	$	18,465	$	445

	December 31, 2010
(In thousands)	Recorded Investment		Unpaid Principal Balance		Recorded Allowance		Average Recorded Investment		Year to Date Interest Income Recognized
With no related allowance recorded:
Commercial, financial & agricultural	$	151	$	378	$	—	$	160	$	11
Real Estate - construction		5,082		7,593		—		5,025		30
Real estate - mortgage		8,401		9,229		—		8,829		163
With an allowance recorded:
Commercial, financial & agricultural		479		479		252		481		12
Real Estate - construction		—		—		—		—		—
Real estate - mortgage		4,841		4,878		542		4,926		121
Total impaired loans:
Commercial, financial & agricultural	$	630	$	857	$	252	$	641	$	23
Real Estate - construction	$	5,082	$	7,593	$	—	$	5,025	$	30
Real estate - mortgage	$	13,242	$	14,107	$	542	$	13,755	$	284

As of September 30, 2011 there are seven restructured loans with a recorded investment of $4,172,000 included in the impaired loans table above, as required by GAAP, that management has not internally classified as impaired because they are performing in accordance with their restructured terms such that we expect to recover all loan principal, however these loans meet the GAAP definition of a TDR. Accordingly, while these loans meet the technical definition of a restructured loan and must therefore be classified as impaired under GAAP, management evaluates these loans as non-impaired.

Loans exhibiting one or more of the following attributes are placed on a nonaccrual status:

a.)

Principal and/or interest is 90 days or more delinquent, unless the obligation is (i) well secured by collateral with a realizable value sufficient to discharge the debt including accrued interest in full, and (ii) in the process of collection, which is reasonably expected to result in repayment of the debt or in its restoration to a current status.

b.)	A borrower’s financial condition has deteriorated to such an extent, or some condition exists, that makes collection of interest and/or principal in full unlikely in management’s opinion.

c.)	Foreclosure or legal action has been initiated as a result of default by the borrower on the terms of the debt.

The following is a summary of current, past due and nonaccrual loans:

	September 30, 2011
(In thousands)	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days Past Due & Accruing		Nonaccrual		Total Past Due & Nonaccrual		Current Loans		Total Loans
Commercial and financial	$	––	$	––	$	––	$	33	$	33	$	9,146	$	9,179
Agricultural		––		––		––		151		151		––		151
Real estate – construction, commercial		––		––		––		13,048		13,048		31,975		45,023
Real estate – construction, residential		––		––		––		120		120		11,672		11,792
Real estate – mortgage, commercial		198		––		––		4,525		4,723		84,801		89,524
Real estate – mortgage, residential		646		––		––		4,459		5,105		98,239		103,344
Consumer installment loans		––		––		––		2		2		1,615		1,617
Other		––		––		––		––		––		159		159
	$	844	$	––	$	––	$	22,338	$	23,182	$	237,607	$	260,789

	December 31, 2010
(In thousands)	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days Past Due & Accruing		Nonaccrual		Total Past Due & Nonaccrual		Current Loans		Total Loans
Commercial and financial	$	––	$	––	$	––	$	5	$	5	$	10,115	$	10,120
Agricultural		––		––		––		151		151		––		151
Real estate – construction, commercial		373		––		––		9,112		9,485		41,788		51,273
Real estate – construction, residential		––		––		––		75		75		12,019		12,094
Real estate – mortgage, commercial		539		––		––		4,284		4,823		82,935		87,758
Real estate – mortgage, residential		1,220		––		––		8,673		9,893		93,959		103,852
Consumer installment loans		3		––		––		2		5		2,140		2,145
Other		––		––		––		––		––		207		207
	$	2,135	$	––	$	––	$	22,302	$	24,437	$	243,163	$	267,600

Management evaluates all loan relationships periodically in order to assess the financial strength of the borrower and the value of any underlying collateral. Based on the results of these evaluations, management will assign internal loan classifications to designate the relative strength of the credit. The internal grades used are Pass, Special Mention, and Substandard. Within the Pass classification, there are sub grades that range from High to Acceptable, all of which indicate that the loan is expected to continue to perform in accordance with its terms. Loans with potential weaknesses that deserve management’s close attention are classified as Special Mention. If the potential weakness in a Special Mention loan was to go uncorrected, it could result in deteriorating prospects for continued loan performance at some future date; however, the loan is not currently adversely classified. The Substandard classification is assigned to loans that are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. These loans have a well-defined weakness that jeopardizes the payment of the debt or the liquidation of the collateral securing the debt, and are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. Loans classified as Special Mention or Substandard are subject to increased monitoring by management. This typically includes frequent contact with the borrower to actively manage the borrowing relationship as needed to rehabilitate or mitigate the weakness, or potential weakness, identified.

A summary of loan credit quality is presented below:

(In thousands)	September 30, 2011
	Pass		Special Mention		Substandard		Total
Commercial and financial	$	8,470	$	89	$	620	$	9,179
Agricultural		––		––		151		151
Real estate – construction, commercial		26,471		452		18,100		45,023
Real estate – construction, residential		11,431		96		265		11,792
Real estate – mortgage, commercial		73,742		6,210		9,572		89,524
Real estate – mortgage, residential		94,576		1,871		6,897		103,344
Consumer installment loans		1,574		12		31		1,617
Other		159		––		––		159
	$	216,423	$	8,730	$	35,636	$	260,789

(In thousands)	December 31, 2010
	Pass		Special Mention		Substandard		Total
Commercial and financial	$	9,066	$	––	$	1,054	$	10,120
Agricultural		––		––		151		151
Real estate – construction, commercial		30,053		3,070		18,150		51,273
Real estate – construction, residential		11,818		201		75		12,094
Real estate – mortgage, commercial		73,240		1,698		12,820		87,758
Real estate – mortgage, residential		90,062		2,357		11,433		103,852
Consumer installment loans		2,082		25		38		2,145
Other		207		––		––		207
	$	216,528	$	7,351	$	43,721	$	267,600

Risk Elements in the Loan Portfolio

As addressed in the discussion on the provision and allowance for loan losses in Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations, loans on nonaccrual status were $22,338,000 at September 30, 2011, largely unchanged from the level of $22,302,000 at December 31, 2010. Conversely, over this same time period, the balance of loans internally classified as Special Mention or Substandard declined by $6,706,000 or 13.1%. In effect, loans previously identified as having a weakness migrated from performing to non performing or to OREO, while the level of new loans identified with a potential weakness have declined. In addition to the level of loans on nonaccrual status and the internal loan classifications, there are a number of other portfolio characteristics that management monitors and evaluates to assess the risk profile of the loan portfolio. The following is a summary of risk elements in the loan portfolio:

	Loans with Interest Only Payments
(In thousands)	September 30, 2011				December 31, 2010
Commercial and financial	$	4,827	9	%	$	5,413	9	%
Real estate – construction, commercial		19,046	35	%		22,407	37	%
Real estate – construction, residential		3,251	6	%		2,097	4	%
Real estate – mortgage, commercial		10,175	18	%		11,026	18	%
Real estate – mortgage, residential		17,523	32	%		19,136	31	%
Consumer installment loans		210	––	%		712	1	%
Other		104	––	%		156	––	%
	$	55,136			$	60,947

As shown above, we have a moderate concentration of interest only loans in our portfolio, and such loans are generally regarded as carrying a higher risk profile than fully amortizing loans. It is important to note that none of the interest only loans in our portfolio allow negative amortization, nor do we have any loans with capitalized interest reserves.

	Geographic Concentration of Loan Portfolio
	September 30, 2011
(In thousands)	Florida		Georgia		South Carolina		Other
Commercial and financial	$	5,913	$	140	$	3,007	$	119
Agricultural		––		151		––		––
Real estate – construction, commercial		12,876		6,175		24,044		1,928
Real estate – construction, residential		4,244		1,568		5,140		840
Real estate – mortgage, commercial		33,770		11,654		41,670		2,430
Real estate – mortgage, residential		35,353		31,121		35,342		1,528
Consumer installment loans		552		267		773		25
Other		––		155		4		––
	$	92,708	$	51,231	$	109,980	$	6,870

	Geographic Concentration of Loan Portfolio
	December 31, 2010
(In thousands)	Florida		Georgia		South Carolina		Other
Commercial and financial	$	6,149	$	372	$	3,488	$	111
Agricultural		––		151		––		––
Real estate – construction, commercial		16,206		6,892		26,247		1,928
Real estate – construction, residential		3,835		937		7,322		––
Real estate – mortgage, commercial		33,074		11,025		42,751		908
Real estate – mortgage, residential		34,577		30,189		38,617		469
Consumer installment loans		579		205		1,361		––
Other		32		125		50		––
	$	94,452	$	49,896	$	119,836	$	3,416

We also monitor and evaluate several other loan portfolio characteristics at a total portfolio level rather than by major loan category. These characteristics include:

Junior Liens – Loans secured by liens in subordinate positions tend to have a higher risk profile than loans secured by liens in the first or senior position. At September 30, 2011 the Company held $22,394,000 of loans secured by junior liens, which represented approximately 8.6% of the total net loan portfolio. Net loan charge-offs was $386,000 in the nine months ended September 30, 2011 for all loans secured by junior liens for an annualized loss rate of 2.3%. At December 31, 2010 the Company held $23,418,000 of loans secured by junior liens which represents approximately 8.8% of the total net portfolio of loans. Historical loss experience as measured by net loan charge offs was $414,000 in the year ended December 31, 2010 for all loans secured by junior liens for an annualized loss rate of 1.8%.

High Loan to Value Ratios – Typically the Company will not originate a new loan with a loan to value (LTV) ratio in excess of 100%. However, declines in collateral values can result in the case of an existing loan renewal with an LTV ratio in excess of 100% based on the current appraised value of the collateral. In such cases the borrower may be asked to pledge additional collateral or to renew the loan for a lesser amount. If the borrower lacks the ability to pay down the loan or provide additional collateral, but has the ability to continue to service the debt, the loan will be renewed with an LTV ratio in excess of 100%. At September 30, 2011 the loan portfolio included 36 loans with an aggregate balance of $15,327,000, or 5.9% of the net loan portfolio, with LTV ratios in excess of 100%. At December 31, 2010 the loan portfolio included 29 loans with an aggregate balance of $10,855,000, or 4.1% of the net loan portfolio, with LTV ratios in excess of 100%.

Restructured Loans – Historically, the Company has followed a conservative approach by classifying any loan as restructured whenever the terms of a loan were adjusted to the benefit of any borrower in financial distress, regardless of the status of the loan at the time of restructuring. In some cases we have restructured loans for borrowers who were not delinquent, but for various reasons these borrowers were experiencing financial distress that raised a doubt about their continued ability to make payments under current terms. By adjusting the terms of the loan to better fit the borrower’s current financial condition, expectations are that the loan will avoid a future default. In other cases we have restructured loans for borrowers who were in default at the time the loan terms were restructured. The expectation is that by adjusting the terms of such loans, the borrower may begin to make payments again based on the improved loan terms.

The types of changes that are made for troubled borrowers to restructure their obligations include the following:

·	Deferral of one or more scheduled loan payments to a future date

·	Temporary or permanent reduction of the loan interest rate

·	Conversion from principal and interest payment term to an interest only payment term on a temporary basis, or until maturity

·	Forgiveness of accrued but uncollected interest

·	Extension of loan maturity date

·	Reduction in principal due under the loan agreement

The potential financial effects of restructuring troubled debts includes a reduction in the level of interest income collected, a complete loss of interest income, or a loss of some portion of the original loan principal. All troubled debt restructurings are tested for impairment. If a loan is considered to be collateral dependent, the measurement of impairment is based on the fair value of the collateral, net of estimated liquidation costs. If the loan is not considered to be collateral dependent, the present value of expected cash flows is used to determine any amount of impairment. Any impairment is then charged to the allowance for loan and lease losses or designated as a specific reserve, and as such will be considered as a component of the reserve calculation.

For regulatory purposes, in 2010 and prior years, restructured loans that were accruing interest (not on nonaccrual status) would be reported as performing restructured loans until the end of the fiscal year in which the restructure occurred. At the beginning of the following fiscal year, the “restructured” designation for these performing restructured loans was removed, provided the borrower was paying in accordance with the restructured loan terms and the loan had a market rate of interest.

Recent interpretations of the topic of restructured loans by the Company’s primary regulator will effectively prohibit the practice of removing the “restructured” designation from any restructured loan during the life of the loan, beginning with the third quarter of 2011. For 2011 and later, all restructured loans will continue to be reported as restructured, even if (1) the underlying conditions that resulted in the borrower’s financial distress were cured, (2) the loan terms were modified back to current fair value levels, (3) the loan is current and accruing interest, and (4) the borrower has not missed a payment since the loan was restructured. As a result, expectations are that the level of restructured loans will continue to increase in the future.

The following table provides a summary of all loans that are currently designated as restructured for regulatory purposes.

	September 30, 2011						December 31, 2010
Troubled debt restructurings	Number of loans		Recorded Investment		Unpaid Principal Balance		Number of loans		Recorded Investment		Unpaid Principal Balance
Commercial, financial & agricultural		3	$	323,180	$	328,990		1	$	481,250	$	481,250
Real estate – construction		8		6,067,714		6,348,717		12		6,026,819		6,254,777
Real estate – mortgage		12		5,099,639		5,426,801		14		9,849,187		10,209,623
Total troubled debt restructurings		23	$	11,490,533	$	12,104,508		27	$	16,357,256	$	16,945,650

Of the 27 loans totaling $16,357,000 reported as restructured as of December 31, 2010, there were 6 loans with a total balance of $3,314,000 that are no longer reported as restructured effective January 1, 2011. The loans are no longer reported as restructured because they were accruing interest, they were in compliance with the restructured loan terms and they yielded a market rate of interest at the time of restructure.

The following table provides the payment status as of September 30, 2011 and September 30, 2010 of all loans that were restructured in the twelve month periods ending on those respective dates.

	September 30, 2011				September 30, 2010
	Number of loans		Recorded Investment		Number of loans		Recorded Investment
Restructured loans less than 30 days past due
Commercial, financial & agricultural		2	$	290,254		2	$	542,988
Real estate – construction		2		1,173,839		8		2,289,047
Real estate – mortgage		3		731,679		6		4,736,588
Total restructured loans less than 30 days past due		7	$	2,195,772		16	$	7,568,623
Restructured loans 30 days or more past due
Real estate – construction		––		––		1		313,435
Real estate – mortgage		––		––		1		144,224
Total restructured loans 30 days or more past due		––	$	––		2	$	457,659
Restructured loans on nonaccrual
Real estate – construction		––		––		3		1,673,002
Real estate – mortgage		3		1,266,069		3		502,074
Total restructured loans on nonaccrual		3	$	1,266,069		6	$	2,175,076

Loans classified as Special Mention or Substandard – Management evaluates all loan relationships periodically in order to assess the financial strength of the borrower and the value of any underlying collateral. Loans that are found to have a potential or actual weakness are classified as special mention or substandard and subject to increased monitoring by management. This typically includes frequent contact with the borrower to actively manage the borrowing relationship as needed to rehabilitate or mitigate the weakness identified. At September 30, 2011, the Company had $44,366,000 in loans that were internally classified as Special Mention or Substandard, of which $28,253,000, or 64%, were either current or less than 30 days past due. At December 31, 2010, the Company had $51,072,000 in loans that were internally classified as Special Mention or Substandard, of which $34,437,000, or 67%, were either current or less than 30 days past due. As shown above, the balance of loans internally classified as Special Mention or Substandard declined by $6,706,000, or 13.1%, while the percentage of those loans that were more than 30 days past due increased from 33% to 36%. This pattern reflects the migration of loans previously identified as having a weakness from performing status to non performing status, and ultimately to OREO, while the level of new loans identified with a potential weakness have declined.

We have established an allowance for loan losses through a provision for loan losses charged to expense on our statement of earnings. Additions to the allowance for loan losses are made periodically to maintain the allowance at an appropriate level based on management’s analysis of the potential risk in the loan portfolio. 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. Our judgment as to the adequacy of the allowance for loan losses is based upon a number of assumptions about future events, which we believe to be reasonable, but which may or may not prove to be accurate. To the extent that the recovery of loan balances has become collateral dependent, we obtain appraisals not less than annually, and then we reduce these appraised values by the amount estimated for selling and holding costs to determine the liquidated value. Any shortfall between the liquidated value and the loan balance is charged against the allowance for loan losses in the month the related appraisal was received. Our losses will undoubtedly vary from our estimates, and there is a possibility that charge-offs can reduce this allowance. Our determination of the allowance for loan losses is based on evaluations of the collectability of loans, including consideration of factors such as the balance of impaired loans, the quality, mix, and size of our overall loan portfolio, economic conditions that may affect the borrower’s ability to repay, commercial and residential real estate market trends, the amount and quality of collateral securing the loans, our historical loan loss experience, and a review of specific problem loans. We also consider subjective issues such as changes in the lending policies and procedures, changes in the local/national economy, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, concentrations of credit, and peer group comparisons.

An analysis of the activity in the allowance for loan losses is presented below:

	For the Nine Months Ended September 30,
	2011			2010
Balance, beginning of year	$	6,007,690		$	6,386,409
Provision for loan losses		1,715,039			2,445,930
Loans charged off		(2,205,503	)		(2,830,985	)
Recoveries of loans previously charged off		267,992			291,478
Balance, end of period	$	5,785,218		$	6,292,832

The following tables provide additional information concerning changes to the allowance for loan losses within major loan categories:

	For the Nine Months Ended September 30, 2011
(In thousands)	Commercial, Financial & Agricultural			Real Estate - Construction			Real Estate - Mortgage			Consumer		Unallocated			Total
Allowance balance, beginning of year	$	543		$	358		$	4,042		$	326	$	739		$	6,008
Loans charged off		(488	)		(559	)		(1,159	)		––		––			(2,206	)
Recoveries		26			43			194			5		––			268
Provision for loan losses		245			512			1,084			185		(311	)		1,715
Allowance balance, end of period	$	326		$	354		$	4,161		$	516	$	428		$	5,785

	September 30, 2011
(In thousands)	Commercial, Financial & Agricultural			Real Estate - Construction			Real Estate - Mortgage			Consumer		Unallocated			Total
Allowance for loans individually evaluated for impairment		––			270			1,415			––		––			1,685
Allowance for loans collectively evaluated for impairment		326			84			2,746			516		428			4,100
Total allowance for loan losses		326			354			4,161			516		428			5,785
Loans individually evaluated for impairment		499			8,119			17,084			––		––			25,702
Loans collectively evaluated for impairment		8,831			48,696			175,784			1,776		––			235,087
Total loans	$	9,330		$	56,815		$	192,868		$	1,776	$	––		$	260,789

	For the Nine Months Ended September 30, 2010
(In thousands)	Commercial, Financial & Agricultural			Real Estate - Construction			Real Estate - Mortgage			Consumer			Unallocated			Total
Allowance balance, beginning of year	$	346		$	741		$	4,241		$	351		$	707		$	6,386
Loans charged off		(80	)		(1,203	)		(1,476	)		(71	)		––			(2,830	)
Recoveries		1			97			182			11			––			291
Provision for loan losses		155			775			1,481			160			(125	)		2,446
Allowance balance, end of period	$	422		$	410		$	4,428		$	451		$	582		$	6,293

	December 31, 2010
(In thousands)	Commercial, Financial & Agricultural			Real Estate - Construction			Real Estate - Mortgage			Consumer			Unallocated			Total
Allowance for loans individually evaluated for impairment		252			––			542			––			––			794
Allowance for loans collectively evaluated for impairment		291			358			3,500			326			739			5,214
Total allowance for loan losses		543			358			4,042			326			739			6,008
Loans individually evaluated for impairment		630			5,082			13,242			––			––			18,954
Loans collectively evaluated for impairment		9,641			58,285			178,368			2,352			––			248,646
Total loans	$	10,271		$	63,367		$	191,610		$	2,352		$	––		$	267,600

Note 6 — Other Real Estate Owned

A summary of other real estate owned is presented as follows:

	Nine Months Ended September 30,
	2011			2010
Balance, beginning of year	$	14,452,043		$	18,176,169
Additions		8,844,538			5,914,363
Disposals		(6,603,001	)		(6,888,353	)
Valuation write downs and losses on sales		(2,357,168	)		(2,775,872	)
Balance, end of period	$	14,336,412		$	14,426,307

Expenses related to other real estate owned include the following:

	Nine Months Ended September 30,
	2011		2010
Net loss on sales of real estate	$	895,304	$	1,171,910
Valuation write downs		1,461,864		1,603,962
Operating expenses		334,115		455,050
Total expenses related to other real estate owned	$	2,691,283	$	3,230,922

Note 7 — Stock-Based Compensation

The Company adopted a Stock Incentive Plan in 2000 which currently authorizes 389,281 shares of the Company’s common stock for issuance under the Plan. The Plan provides for the total number of shares authorized for issuance under the Plan to be increased upon the issuance of new shares by the Company by an amount equal to the difference between 15% of the total outstanding shares after the issuance of the new shares and the number of shares authorized for issuance prior to the issuance of the new shares. The Plan is administered by the Board of Directors and provides for the granting of options to purchase shares of common stock to officers, directors, employees or consultants of the Company and Bank. The exercise price of each option granted under the Plan will not be less than the fair market value of the shares of common stock subject to the option on the date of grant as determined by the Board of Directors. Options are exercisable in whole or in part upon such terms as may be determined by the Board of Directors, and are exercisable no later than ten years after the date of grant. Options granted under the Plan generally vest over a five-year vesting period. Pursuant to the Plan, no Incentive Stock Option may be granted more than ten years after February 15, 2000, the effective date of the Plan. As of September 30, 2011, there were 97,040 shares available for grant under this Plan as non-qualified stock options.

Additionally, the Company assumed the outstanding options under the 1999 First Capital Bank Holding Corporation Stock Option Plan (the “First Capital Plan”) in connection with the merger of First Capital Bank Holding Company with and into the Company on October 1, 2005. As a result of the merger, each outstanding option under the First Capital Plan was converted into an option to purchase Coastal Banking Company, Inc. common stock. Coastal assumed and maintains the First Capital Plan solely to administer the options that were outstanding as of the effective time of the merger. As of the effective time of the merger, the Company elected to discontinue the issuance of options under the First Capital Plan.

On August 24, 2011, the Company granted a restricted stock award to Michael G. Sanchez, Chief Executive Officer, for 6,500 shares of the Company’s common stock. The restricted stock vests and becomes transferable on the later of the date when the Company has fully repaid all obligations under the TARP Capital Purchase Program or the two year anniversary date of the grant date of the restricted stock. The restricted stock was granted to Mr. Sanchez as compensation for his service to the Company. The ultimate cost to the Company from this grant will be $14,200, and will be expensed between August 24, 2011 and August 24, 2013.

On May 26, 2010, the Company granted a restricted stock award to Michael G. Sanchez, Chief Executive Officer, for 20,000 shares of the Company’s common stock. The restricted stock vests and becomes transferable on the later of the date when the Company has fully repaid all obligations under the TARP Capital Purchase Program or the two year anniversary date of the grant date of the restricted stock. The restricted stock was granted to Mr. Sanchez as compensation for his service to the Company. The ultimate cost to the Company from this grant will be $68,000, and will be expensed between May 26, 2010 and May 26, 2012.

On May 26, 2010, the Company granted non-qualified stock options to all full time employees for a total of 126,000 options. The options vest over a five year period beginning on May 26, 2010. The ultimate cost to the Company from this grant will be impacted by future option forfeitures, but in any case will not exceed $175,492, and will be expensed between May 26, 2010 and the last vesting date of May 26, 2015.

On August 15, 2008, the Board of Directors of Coastal Banking Company approved a reduction in the exercise price of 42,603 incentive stock options that were previously issued and outstanding. The options had been issued to 14 officers and employees of the Company with an average exercise price of $19.26 per share. The new exercise price was $7.50 per share, the market value of the Company's common stock on the day the lower exercise price was set by the Board action. The ultimate full cost to the Company will be impacted by future option forfeitures, but in any case will not exceed $63,075 over the period beginning on August 15, 2008 and ending on December 31, 2012.

On March 21, 2008, the Company granted a restricted stock award to Gary Horn, Regional President of Lowcountry National Bank, for 5,000 shares of the Company’s common stock. The restricted stock vests in five equal annual increments on the anniversary date of the grant date of the restricted stock. The restricted stock was granted to Mr. Horn as compensation for his service to the Bank. The ultimate cost to the Company from this grant will be $68,750, and will be expensed between March 21, 2008 and March 21, 2013.

Note 8 — Fair Value

Determination of Fair Value

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with the Fair Value Measurements and Disclosures topic (FASB ASC 820), the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between willing market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between willing market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.

Fair Value Hierarchy

In accordance with this guidance, the Company groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

Level 1 - Valuation is based on quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 1 assets and liabilities generally include debt and equity securities that are traded in an active exchange market. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.

Level 2 - Valuation is based on inputs other than quoted prices included within level 1 that are observable for the asset or liability, either directly or indirectly. The valuation may be based on 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 for substantially the full term of the asset or liability.

Level 3 - Valuation is based on 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 determination of fair value requires significant management judgment or estimation.

A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying balance sheet, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows. Level 2 securities include U.S. agency securities, mortgage-backed agency securities, obligations of states and political subdivisions and certain corporate, asset backed and other securities. In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy.

The table below presents the Company’s assets and liabilities measured at fair value on a recurring basis as of September 30, 2011, aggregated by the level in the fair value hierarchy within which those measurements fall.

	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Investment securities available for sale	$	29,810,135	$	1,294,230	$	28,515,905	$	––
Loans held for sale		66,523,424		––		65,308,815		1,214,609
Derivative asset positions		1,195,054		––		1,195,054		––
Total fair value of assets measured on a recurring basis	$	97,528,613	$	1,294,230	$	95,019,774	$	1,214,609
Liabilities:
Derivative liability positions	$	1,479,342	$	––	$	1,479,342	$	––
Total fair value of liabilities measured on a recurring basis	$	1,479,342	$	––	$	1,479,342	$	––

The table below presents the Company’s assets and liabilities measured at fair value on a recurring basis as of December 31, 2010, aggregated by the level in the fair value hierarchy within which those measurements fall.

	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Investment securities available for sale	$	37,720,495	$	408,363	$	37,312,132	$	––
Loans held for sale		55,336,007		––		54,286,053		1,049,954
Derivative asset positions		763,457		––		763,457		––
Total fair value of assets measured on a recurring basis	$	93,819,959	$	408,363	$	92,361,642	$	1,049,954
Liabilities:
Derivative liability positions	$	1,403,004	$	––	$	1,403,004	$	––
Total fair value of liabilities measured on a recurring basis	$	1,403,004	$	––	$	1,403,004	$	––

The table below presents a reconciliation of level 3 assets as of September 30, 2011 and 2010.

	Loans held for sale
	2011			2010
Balance, beginning of year	$	1,049,954		$	542,791
Total gains included in net income		88,110			84,100
Issuances		9,915,142			20,281,920
Sales		(9,838,597	)		(18,974,895	)
Transfers in or out of Level 3		––			––
Balance, end of period	$	1,214,609		$	1,933,916

Assets Measured at Fair Value on a Nonrecurring Basis

The following is a description of the valuation methodologies used for instruments measured at fair value on a nonrecurring basis and recognized in the accompanying balance sheet, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Loan impairment is reported when full payment under the loan terms is not expected. Impaired loans are carried at the present value of estimated future cash flows using the loan's existing rate, or the fair value of collateral if the loan is collateral dependent. 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. If these allocations cause the allowance for loan losses to require an increase, such increase is reported as a component of the provision for loan losses. Loan losses are charged against the allowance when management believes the uncollectability of a loan is confirmed. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the loan impairment as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the loan impairment as nonrecurring Level 3.

Other real estate owned (“OREO”) is adjusted to fair value upon transfer of the loan collateral to OREO. Subsequently, OREO is carried at the lower of carrying value or fair value. Fair value is based upon independent market prices, appraised values of the OREO or management’s estimation of the value of the OREO. When the fair value of the OREO is based on an observable market price or a current appraised value, the Company records the OREO as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the OREO is further impaired below the appraised value and there is no observable market price, the Company records the OREO as nonrecurring Level 3.

The table below presents the Company’s assets for which a nonrecurring change in fair value has been recorded during the nine months ended September 30, 2011, aggregated by the level in the fair value hierarchy within which those measurements fall.

	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total losses for the nine months ended September 30, 2011
Assets:
Impaired loans	$	21,530,184	$	––	$	––	$	21,530,184	$	––
Other real estate owned		14,336,412		––		––		14,336,412		(2,357,168	)
Total fair value of assets measured on a nonrecurring basis	$	35,866,596	$	––	$	––	$	35,866,596	$	(2,357,168	)

The table below presents the Company’s assets for which a nonrecurring change in fair value has been recorded during the year ended December 31, 2010, aggregated by the level in the fair value hierarchy within which those measurements fall.

	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total losses for the year ended December 31, 2010
Assets:
Impaired loans	$	18,953,740	$	––	$	––	$	18,953,740	$	––
Other real estate owned		14,452,043		––		––		14,452,043		(3,927,693	)
Total fair value of assets measured on a nonrecurring basis	$	33,405,783	$	––	$	––	$	33,405,783	$	(3,927,693	)

Fair Value of Financial Instruments

The fair value of a financial instrument is the current amount that would be exchanged between willing parties in an orderly transaction. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. Where quoted prices are not available, fair values are based on estimates using discounted cash flows and other valuation techniques. The use of discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following disclosures should not be considered as representative of the liquidation value of the Bank, but rather represent a good-faith estimate of the increase or decrease in value of financial instruments held by the Bank since purchase, origination, or issuance.

The following methods and assumptions were used in this analysis in estimating the fair value of financial instruments:

Cash, due from banks, interest-bearing deposits in banks, federal funds sold, and federal funds purchased: The carrying amount of cash, due from banks, interest-bearing deposits in banks, federal funds sold, and federal funds purchased approximates fair value.

Securities: The fair values of securities available for sale are determined by an independent securities accounting service provider using quoted prices on nationally recognized securities exchanges or matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities. The carrying amount of equity securities with no readily determinable fair value approximates fair value.

Loans: The carrying amount of variable-rate loans that reprice frequently and have no significant change in credit risk approximates fair value. The fair value of fixed-rate loans is estimated based on discounted contractual cash flows, using interest rates currently being offered for loans with similar terms to borrowers with similar credit quality. The fair value of impaired loans is estimated based on discounted contractual cash flows or underlying collateral values, where applicable.

Loans Held for Sale (LHFS): Residential mortgage loans are originated for sale as whole loans in the secondary market. These loans are carried at fair value, with changes in the fair value of these loans recognized in mortgage banking noninterest income. Direct loan origination costs and fees are deferred at origination, and then recognized in the gain or loss on loan sales when the loans are sold. Gains and losses on loan sales (sales proceeds minus the carrying value of the loan sold) are recorded as noninterest income.

Derivative asset and liability positions: The fair value of derivative asset and liability positions is based on available quoted market prices.

Deposits: The carrying amount of demand deposits, savings deposits and variable-rate certificates of deposits approximates fair value. The fair value of fixed-rate certificates of deposit is estimated based on discounted contractual cash flows using interest rates currently being offered for certificates of similar maturities.

Other Borrowings: The carrying amount of variable rate borrowings and federal funds purchased approximates fair value. The fair value of fixed rate other borrowings is estimated based on discounted contractual cash flows using the current incremental borrowing rates for similar type borrowing arrangements.

Junior Subordinated Debentures: The fair value of the Company’s trust preferred securities is based on discounted contractual cash flows using the current incremental borrowing rates for similar type borrowing arrangements.

Accrued Interest: The carrying amount of accrued interest approximates fair value.

Off-Balance-Sheet Instruments: The carrying amount of commitments to extend credit and standby letters of credit approximates fair value. The carrying amount of the off-balance-sheet financial instruments is based on fees charged to enter into such agreements.

The carrying amount and estimated fair value of the Company’s financial instruments are as follows:

	September 30, 2011				December 31, 2010
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Cash, due from banks, and interest-bearing deposits in banks	$	3,372,927		3,372,927	$	2,229,832		2,229,832
Federal funds sold		125,317		125,317		185,258		185,258
Securities available for sale		29,810,135		29,810,135		37,720,495		37,720,495
Securities held to maturity		––		––		2,000,000		2,056,807
Restricted equity securities		4,242,200		4,242,200		4,472,500		4,472,500
Loans held for sale		66,523,424		66,523,424		55,336,007		55,336,007
Loans, net		255,003,958		252,839,186		261,592,712		258,660,152
Derivative asset positions		1,195,054		1,195,054		763,457		763,457
Accrued interest receivable		916,405		916,405		1,130,560		1,130,560

Financial liabilities:
Deposits		340,929,380		342,138,070		346,050,279		348,358,038
Federal funds purchased		3,487,000		3,487,000		––		––
Other borrowings		51,500,000		53,798,637		37,000,000		40,303,524
Junior subordinated debentures		7,217,000		7,217,000		7,217,000		7,223,552
Derivative liability positions		1,479,342		1,479,342		1,403,004		1,403,004
Accrued interest payable		592,022		592,022		424,654		424,654

Note 9 – Derivative Financial Instruments

Mortgage banking derivatives used in the ordinary course of business consist of best efforts and mandatory forward sales contracts and interest rate lock commitments on residential mortgage loan applications. Forward sales contracts represent future commitments to deliver loans at a specified price and by a specified date and are used to manage interest rate risk on loan commitments and mortgage loans held for sale. Rate lock commitments represent commitments to fund loans at a specific rate and by a specified expiration date. These derivatives involve underlying items, such as interest rates, and are designed to mitigate risk. Substantially all of these instruments expire within 60 days from the date of issuance. Notional amounts are amounts on which calculations and payments are based, but which do not represent credit exposure, as credit exposure is limited to the amounts required to be received or paid.

The following tables include the notional amounts and realized gain (loss) for mortgage banking derivatives recognized in Mortgage Banking income for the periods ending September 30, 2011 and December 31, 2010:

Derivatives not designated as hedging instruments (in thousands)	September 30, 2011			December 31, 2010
Mandatory forward sales contracts
Notional amount	$	202,001		$	105,001
Loss on change in market value of mandatory forward sales contracts	$	(748	)	$	(361	)
Derivative asset balance included in other assets	$	568		$	651
Derivative liability balance included in other liabilities	$	1,315		$	1,012

Best efforts forward sales contracts
Notional amount	$	6,667		$	4,454
Gain on change in market value of best efforts forward sales contracts	$	29		$	78
Derivative asset balance included in other assets	$	34		$	78
Derivative liability balance included in other liabilities	$	6		$	––

Rate lock loan commitments
Notional amount	$	199,701		$	64,691
Gain (loss) on change in market value of rate lock commitments	$	435		$	(357	)
Derivative asset balance included in other assets	$	593		$	34
Derivative liability balance included in other liabilities	$	158		$	391

Forward sales contracts also contain an element of risk in that the counterparties may be unable to meet the terms of such agreements. In the event the parties to deliver commitments are unable to fulfill their obligations, the Company could potentially incur significant additional costs by replacing the positions at then current market rates. The Company manages its risk of exposure by limiting counterparties to those banks and institutions deemed appropriate by management and the Board of Directors. The Company does not expect any counterparty to default on their obligations and therefore, the Company does not expect to incur any cost related to counterparty default.

The Company is exposed to interest rate risk on loans held for sale and rate lock loan commitments. As market interest rates increase or decrease, the fair value of mortgage loans held for sale and rate lock commitments will decline or increase accordingly. To offset this interest rate risk, the Company enters into derivatives such as forward contracts to sell loans. The fair value of these forward sales contracts will change as market interest rates change, and the change in the value of these instruments is expected to largely, though not entirely, offset the change in fair value of loans held for sale and rate lock commitments. The objective of this activity is to minimize the exposure to losses on rate lock commitments and loans held for sale due to market interest rate fluctuations. The net effect of derivatives on earnings will depend on risk management activities and a variety of other factors, including market interest rate volatility, the amount of rate lock commitments that close, the ability to fill the forward contracts before expiration, and the time period required to close and sell loans.

Note 10 - Supplemental Segment Information

The Bank has three reportable segments: community banking, SBA lending, and mortgage banking operations. The community banking segment provides traditional banking services offered through the Bank’s branch locations, including limited retail residential mortgage banking origination activity at selected branch locations.

Prior to January 2011, SBA lending revenues and expenses were included within the totals for the community banking segment. At the beginning of 2011 the SBA lending division results were isolated to monitor and evaluate the impact of this division on total bank results. After evaluating the impact of the SBA lending division on the Bank’s results during the first six months of 2011, it became apparent that this division should be a separate reportable segment, and so it is included as such for the first time as of September 30, 2011.

The Small Business Administration lending division originates SBA loans throughout the southeastern United States by the Bank’s SBA business development officers. These officers serve markets in Jacksonville and Vero Beach, Florida; Atlanta, Georgia; Charlotte, North Carolina; and Beaufort, South Carolina. The majority of loans originated by the division are processed through the SBA 7(a) loan program. Participations in these loans are typically sold to secondary market investors within 30 days of the loan being funded. All loan funding, sales and servicing activity is centralized at the Bank’s operations center in Fernandina Beach, Florida.

The mortgage banking operations segment originates residential mortgage loans submitted through a network of independent mortgage brokers, a modest level of retail loan originations from an internet leads based business channel, and beginning in April 2011 from a national network of ten traditional retail mortgage lending branches. Most of these loans are sold to various investors on the secondary market while a limited number of loans are retained in the Bank’s loan portfolio. All wholesale and internet retail mortgage banking activity is conducted in the Bank’s mortgage banking offices in Atlanta, Georgia, as is the national retail mortgage lending administration function. The ten retail lending branches are located in California, Connecticut, Kansas, Maryland, Michigan, New York, and Ohio, and are staffed by 144 new employees hired during the second and third quarters of 2011.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on profit and loss from operations before income taxes not including nonrecurring gains and losses.

All direct costs and revenues generated by each segment are allocated to the segment; however, there is no allocation of indirect corporate overhead costs to the SBA lending or mortgage banking segments. The Company accounts for intersegment revenues and expenses as if the revenue/expense transactions were to third parties at current market prices.

The Company’s reportable segments are strategic business units that offer different products and services to a different customer base. They are managed separately because each segment has different types and levels of credit and interest rate risk.

(In thousands)	Community Banking						SBA Lending Operations				Mortgage Banking Operations
Three months ended September 30,	2011			2010			2011		2010		2011		2010
Interest income	$	3,140		$	4,000		$	270	$	*	$	1,010	$	893
Interest expense		855			1,320			9		*		393		416
Net interest income		2,285			2,680			261		*		617		477
Provision for loan losses		555			1,355			82		*		66		6
Net interest income after provision		1,730			1,325			179		*		551		471
Non interest income		257			306			910		*		4,552		2,914
Non interest expense		3,867			3,908			368		*		4,022		1,942
Net income (loss) before tax expense (benefit)		(1,880	)		(2,277	)		721		*		1,081		1,443
Income tax expense (benefit)		(243	)		(771	)		217		*		317		433
Net income (loss) after taxes	$	(1,637	)	$	(1,506	)	$	504	$	*	$	764	$	1,010

(In thousands)	Community Banking				SBA Lending Operations				Mortgage Banking Operations
Nine months ended September 30,	2011		2010		2011		2010		2011		2010
Interest income	$	9,814	$	12,541	$	786	$	*	$	2,436	$	2,366
Interest expense		3,009		4,644		26		*		986		1,156
Net interest income		6,805		7,897		760		*		1,450		1,210
Provision for loan losses		1,474		2,403		129

COASTAL BANKING CO INC 10-Q