Waccamaw Bankshares (WBNK) 10-K 2007 FY Annual report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

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

For the fiscal year ended December 31, 2007

OR

o TRANSITIONAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______ to _______.

COMMISSION FILE NUMBER000-32985

WACCAMAW BANKSHARES, INC.

(Exact name of registrant as specified in its charter)

NORTH CAROLINA	52-2329563
(State or Other Jurisdiction of	(I.R.S. Employer
Incorporation or Organization)	Identification No.)

110 NORTH J. K. POWELL BOULEVARD

WHITEVILLE, NORTH CAROLINA28472

(Address of Principal Executive Offices)(Zip Code)

Registrant’s Telephone number, including area code: (910) 641-0044

Securities registered pursuant to Section 12(b) of the Act

NONE

Securities registered pursuant to Section 12(g) of the Act:

COMMON STOCK, NO PAR VALUE

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

o Yes x No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

o Yes x No

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 o No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K x

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. (Check one):

Large accelerated filer oAccelerated filer oNon-accelerated filer o    Smaller reporting company x

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

o Yes x No

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant's most recently completed second fiscal quarter. $ 63,768,978.

Indicate the number of shares outstanding of each of the registrant’s classes of Common Stock as of the latest practicable date. 5,436,970 shares of Common Stock outstanding as of March 20, 2008:

Documents Incorporated by Reference.

The Registrant’s Annual Report to stockholders for the fiscal year ended December 31, 2007, incorporated in Part II of this Form 10-K

Registrant’s Proxy Statement for the 2008 Annual Meeting of Stockholders, incorporated into Part III of this Form 10-K

FORM 10-K CROSS-REFERENCE INDEX

PART I	FORM 10-K	PROXY STATEMENT	ANNUAL REPORT
Item 1 - Business	X
Item 1A - Risk Factors	X
Item 1B - Unresolved Staff Comments	X
Item 2 - Properties	X
Item 3 - Legal Proceedings	X
Item 4 - Submission of Matters to a Vote Of Security Holders	X
PART II
Item 5-Market for Registrant’sCommon Equity, RelatedStockholder Matters and Issuer Purchases of Equity Securities	X
Item 6 - Selected Financial Data	X
Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations			X
Item 7A - Quantitative and Qualitative Disclosures About Market Risk			X
Item 8 - Financial Statements and Supplementary Data			X
Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosures	X
Item 9A - Controls and Procedures	X
Item 9B - Other Information	X
PART III
Item 10 - Directors, Executive Officers and Corporate Governance	X	X
Item 11 - Executive Compensation		X
Item 12 - Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters		X
Item 13 - Certain Relationships and Related Transactions, and Director Independence		X
Item 14 - Principal Accounting Fees and Services		X
PART IV
Item 15 - Exhibits, Financial Statement Schedules	X

PART 1

ITEM 1 - BUSINESS

General

Waccamaw Bankshares, Inc. (the “Company”) was formed during 2001 as a financial holding company chartered in the State of North Carolina. On July 1, 2001, the Company acquired all the outstanding shares of Waccamaw Bank (the “Bank”) in a tax-free exchange. To date, the only business activities of the Company consist of the activities of the Bank.

Waccamaw Bank was organized and incorporated under the laws of the State of North Carolina on August 28, 1997 and commenced operations on September 2, 1997. The Bank currently serves Columbus County, North Carolina and surrounding areas through three banking offices, Brunswick County through seven banking offices, New Hanover County through one banking office, Bladen County through one banking office, Lancaster County, South Carolina through one banking office and Horry County, South Carolina through three banking offices. As a state-chartered bank which is a member of the Federal Reserve, the Bank is subject to regulation by the North Carolina Commissioner of Banks and the Federal Reserve.

Location and Service Area

The Company’s primary service area is Columbus, Brunswick, Bladen and New Hanover Counties of North Carolina and Lancaster and Horry Counties of South Carolina. The principal business of the Company is to provide comprehensive individual and corporate banking services to its main service area. These services include demand and time deposits as well as commercial, installment, mortgage and other consumer lending services that are traditionally available from community banks.

Columbus County is located in the southeastern portion of North Carolina near the South Carolina border. Whiteville, the largest city in the county is approximately 45 miles west of Wilmington, North Carolina, 150 miles southeast of Charlotte, North Carolina, and 45 miles north of Myrtle Beach, South Carolina. These cities all have national or regional airports.

Brunswick County is adjacent to Columbus County to the southeast and also borders South Carolina. Shallotte, the largest city in the county, is approximately 35 miles southwest of Wilmington and 35 miles northeast of Myrtle Beach.

New Hanover County is a coastal county and adjacent to Brunswick County to the north. Wilmington, the largest city in the county, has a diversified economy which includes shipping, manufacturing, medical and retail industries.

Bladen County is adjacent to Columbus County to the northeast. Elizabethtown, the largest city in the county is approximately 50 miles northwest of Wilmington and 80 miles northwest of Myrtle Beach.

Lancaster County is located near the middle of the state near the North Carolina border and approximately 40 miles south of Charlotte, NC and fifty miles north of Columbia, South Carolina. These cities all have national or regional airports.

Horry County is located in the northeastern portion of South Carolina near the North Carolina border. Myrtle Beach, the largest city in the county, has a diversified economy which includes tourism, manufacturing, medical and retail industries.

The principal components of the economy in the Company’s primary service area are manufacturing, agriculture and tourism. Manufacturing employment is concentrated in the wood products and textile industries. The primary agriculture products are tobacco and hogs.

Competition

The primary business activity of the Company is commercial banking. This activity is conducted by the Bank which is the wholly owned subsidiary of the Company.

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Banking is a highly competitive industry. The principal areas and methods of competition in the banking industry are the services that are offered, the pricing of those services, the convenience and availability of the services and the degree of expertise and personal manner with which those services are offered. The Bank encounters strong competition from other commercial banks, including the largest North Carolina banks, operating in the Bank’s market area. There are 16 offices of 5 other commercial banks operating in Columbus County, 35 offices of 7 other commercial banks operating in Brunswick County, 71 offices of 16 other commercial banks operating in New Hanover County, 8 offices of 6 other commercial banks operating in Bladen County, 9 offices of 5 other commercial banks operating in Lancaster County and 113 offices of 17 other commercial banks operating in Horry County. In the conduct of certain aspects of its business, the Bank also competes with credit unions, money market mutual funds, and other non-bank financial institutions, some of which are not subject to the same degree of regulation as the Bank. Many of these competitors have substantially greater resources and lending abilities than the Bank and offer certain services, such as investment banking, trust, interstate and international banking services, that the Bank cannot or will not provide.

Supervision and Regulation

The Company and the Bank are subject to state and federal banking laws and regulations. These impose specific requirements and restrictions and provide for general regulatory oversight with respect to virtually all aspects of operations. These laws and regulations are generally intended to protect depositors, not stockholders. To the extent that the following summary describes statutory or regulatory provisions, it is qualified in its entirety by reference to the particular statutory and regulatory provisions. Any change in applicable laws or regulations may have a material effect on the business and prospects of the Company. Beginning with the enactment of the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA") and following with the Federal Deposit Insurance Corporation Improvement Act ("FDICIA"), enacted in 1991, numerous additional regulatory requirements have been placed on the banking industry in the past five years, and additional changes have been proposed. The operations of the Company and the Bank may be affected by legislative changes and the policies of various regulatory authorities. The Company is unable to predict the nature or the extent of the effect on its business and earnings that fiscal or monetary policies, economic control, or new federal or state legislation may have in the future.

Federal Bank Holding Company Regulation (Financial Holding Company Regulations)

The Company is a financial holding company within the meaning of the Gramm-Leach-Bliley Act of 1999 (the "GLB Act"). Under the GLB Act, which became effective on March 11, 2000, the types of activities in which a bank holding company may engage were significantly expanded. Subject to various limitations, the GLB Act generally permits a bank holding company to elect to become a “financial holding company.” A financial holding company may affiliate with securities firms and insurance companies and engage in other activities that are "financial in nature." Among the activities that are deemed "financial in nature" are, in addition to traditional lending activities, securities underwriting, dealing in or making a market in securities, sponsoring mutual funds and investment companies, insurance underwriting and agency activities, certain merchant banking activities and activities that the Federal Reserve considers to be closely related to banking.

A bank holding company may become a financial holding company under the GLB Act if each of its subsidiary banks is "well capitalized" under the Federal Deposit Insurance Corporation Improvement Act prompt corrective action provisions, is well managed and has at least a satisfactory rating under the Community Reinvestment Act. In addition, the bank holding company must file a declaration with the Federal Reserve if it falls out of compliance with these requirements and may be required to cease engaging in some of its activities.

Under the GLB Act, the Federal Reserve serves as the primary "umbrella" regulator of financial holding companies, with supervisory authority over each parent company and limited authority over its subsidiaries. Expanded financial activities of financial holding companies generally will be regulated according to the type of such financial activity- banking activities by banking regulators, securities activities by securities regulators and insurance activities by insurance regulators. The GLB Act also imposes additional restrictions and heightened disclosure requirements regarding information collected by financial institutions.

The Company is also still subject to the Bank Holding Company Act (the "BHCA"). Under the BHCA, the Company is subject to periodic examination by the Federal Reserve and is required to file periodic reports of its operations and such other information as the Federal Reserve may require.

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Investments, Control, and Activities. With certain limited exceptions, the BHCA requires every holding company to obtain the prior approval of the Federal Reserve before (i) acquiring substantially all the assets of any bank, (ii) acquiring direct or indirect ownership or control of any voting shares of any bank if after such an acquisition it would own or control more than 5% of the voting shares of such bank (unless it already owns or controls the majority of such shares), or (iii) merging or consolidating with another holding company.

In addition, and subject to certain exceptions, the BHCA and the Change in Bank Control Act, together with regulations thereunder, require Federal Reserve approval (or, depending on the circumstances, no notice of disapproval) prior to any person or company acquiring "control" of a holding company, such as the Company. Control is conclusively presumed to exist if an individual or company acquires 25% or more of any class of voting securities of the holding company. In the case of the Company, under Federal Reserve regulations control will be rebuttably presumed to exist if a person acquires at least 10% of the outstanding shares of any class of voting securities.

Source of Strength; Cross-Guarantee. In accordance with Federal Reserve policy, the Company is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances in which the Company might not otherwise do so. Under the BHCA, the Federal Reserve may require a holding company to terminate any activity or relinquish control of a nonbank subsidiary (other than a nonbank subsidiary of a bank) upon the Federal Reserve's determination that such activity or control constitutes a serious risk to the financial soundness or stability of any subsidiary depository institution of the bank holding company. Further, federal bank regulatory authorities have additional discretion to require a holding company to divest itself of any bank or nonbank subsidiary if the agency determines that divestiture may aid the depository institution's financial condition. The Bank may be required to indemnify, or cross-guarantee, the FDIC against losses it incurs with respect to any other bank which the Company controls, which in effect makes the Company's equity investments in healthy bank subsidiaries available to the FDIC to assist any failing or failed bank subsidiary of the Company. The Bank is the only bank currently controlled by the Company.

The Bank

The Company is the holding company for the Bank, which is a North Carolina banking corporation. Substantially all Company revenues are earned through the operations of the Bank. The Bank is subject to examination and supervision by the Federal Reserve and the North Carolina Commissioner of Banks (the “Commissioner”). The Federal Reserve monitors the Bank’s compliance with several federal statutes such as the Community Reinvestment Act of 1977 and the Depository Institution Management Interlocks Act. The Federal Reserve has broad enforcement authority to prevent the continuance or development of unsafe and unsound banking practices, including the issuance of cease and desist orders and the removal of officers and directors. The Federal Reserve must approve the establishment of branch offices, conversions, mergers, assumptions of deposit liabilities between insured and uninsured institutions, and the acquisition or establishment of certain subsidiary corporations. The Federal Reserve can prevent capital or surplus diminution in such transactions where the deposit accounts of the resulting, continuing or assuring bank are federally insured.

The Bank is subject to capital requirements and limits on activities established by the Federal Reserve. Under the capital regulations, the Bank generally is required to maintain Tier 1 risk-based capital, in such terms as defined therein, of 4.0% and total risk-based capital of 8.0%. In addition, the Bank is required to provide a minimum leverage ratio Tier 1 capital to adjusted average quarterly assets (leverage ratio) equal to 3.0%, plus an additional cushion of one to two percent if the Bank has less than the highest regulatory rating. The Bank is not permitted to engage in any activity not permitted for a national bank unless (i) it is in compliance with its capital requirement and (ii) the FDIC determines that the activity would not pose a risk to the deposit insurance fund. With certain exceptions, the Bank also is not permitted to acquire equity investments of a type, or in an amount, not permitted for a national bank.

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Federal banking law requires the federal banking agencies to take “prompt corrective action” in respect of insured depository institutions that do not meet minimum capital requirements. There are five tiers: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” and “critically undercapitalized,” as defined by regulations promulgated by the FDIC and the other federal depository institution regulatory agencies. A depository institution is well capitalized if it significantly exceeds the minimum level required by regulation for each relevant capital measure, adequately capitalized if it meets each such measure, undercapitalized if it fails to meet any such measure, significantly undercapitalized if it is below such measures, and critically undercapitalized if it fails to meet any critical capital level set forth in the regulations. The critical capital level must be a level of tangible equity capital equal to not more than 65.0% of the minimum leverage ratio prescribed by regulation. A depository institution may be deemed to be in a capitalization category that is lower than is indicated by its actual capital position if it receives an unsatisfactory examination rating.

The Bank is required to pay deposit insurance assessments set by the FDIC. Under the current assessment rate schedule, the Bank assessment will range from no assessment to .27% of the Bank’s average deposit base, with the exact assessment determined by the Bank’s capital and the FDIC’s supervisory opinion of the Bank’s operations. Only the strongest banks are not required to pay an assessment. The insurance assessments rate may change periodically. Changes in the assessment rate may have a material effect on the Bank’s operating results. The FDIC has the authority to terminate deposit insurance.

The earnings of the Bank are affected significantly by the policies of the Federal Reserve Board, a federal agency which regulates the money supply in order to mitigate recessionary and inflationary pressures. Among the techniques used to implement these objectives are open market transactions in United States government securities, changes in the rate paid by banks on bank borrowings, and changes in reserve requirements against bank deposits. These techniques are used in varying combinations to influence overall growth and distribution of bank loans, investments, and deposits, and their use may also affect interest rates charged on loans or paid on deposits.

The monetary policies of the Federal Reserve Board have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future. In view of changing conditions in the national economy and money markets, as well as the effect of actions by monetary and fiscal authorities, no prediction can be made as to possible future changes in interest rates, deposit levels, loan demand or the business and earnings of the Bank.

The Bank is chartered by the State of North Carolina and is subject to extensive supervision and regulation by the Commissioner. The Commissioner enforces state laws that set specific requirements for bank capital, the payment of dividends, loans to officers and directors, record keeping, and types and amounts of loans and investments made by commercial banks. Among other things, the approval of the Commissioner is generally required before a North Carolina chartered commercial bank may establish branch offices. North Carolina banking law requires that any merger, liquidation or sale of substantially all of the assets of the Bank must be approved by the Commissioner and the holders of two-thirds of the Bank’s outstanding common stock.

Pursuant to North Carolina banking laws, no person may directly or indirectly purchase or acquire voting stock of the Bank which would result in the change of control of the Bank unless the Commissioner has approved the acquisition. A person will be deemed to have acquired “control” of the Bank if that person directly or indirectly (i) owns, controls or has power to vote 10% or more of the voting stock of the Bank, or (ii) otherwise possesses the power to direct or cause the direction of the management and policy of the Bank.

In its lending activities, the Bank is subject to North Carolina usury laws which generally limit or restrict the rates of interest, fees and charges and other terms and conditions in connection with various types of loans.

North Carolina banking law requires that bank holding companies register with the Commissioner. The Commissioner must also approve any acquisition of control of a state-chartered bank by a bank holding company. 

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In 1994, Congress adopted new legislation which generally permits an adequately capitalized and managed bank holding company to acquire control of a bank in any state, subject to certain state law requirements. North Carolina banking law has been amended to authorize banking organizations in any state to acquire North Carolina banking institutions on a reciprocal basis. North Carolina banking law authorizes North Carolina banks to establish branches in other states and permits out-of-state banks to establish branches in North Carolina on a reciprocal basis. The overall effect of this legislation will increase competition in the banking industry in North Carolina, however, the State of South Carolina does not allow North Carolina chartered banks to establish branches in South Carolina. As a result, North Carolina chartered banks may only establish offices within the State of South Carolina through acquisitions of existing South Carolina institutions effected in compliance with South Carolina banking law.

Material Customers

Deposits are derived from a broad base of customers in the Company’s trade area. No material portion of deposits have been obtained from a single person or a group of persons. Management does not believe the loss of any one customer would have a material adverse effect on the business of the Company.

The majority of loans and commitments to extend credit have been granted to customers in the Company’s market area. The majority of such customers are depositors. The Bank generally does not extend credit to any single borrower or group of related borrowers in excess of approximately $4.0 million.

Rights

No patents, trademarks, licenses, franchises or concessions held are of material significance to the Company.

Environmental Laws

Compliance with Federal, State, or local provisions regulating the discharge of materials into the environment has not had, nor is it expected to have in the future, a material effect upon the Company’s capital expenditures, earnings or competitive position.

Employees

The Company had no compensated employees. The Bank presently has 150 full-time equivalent employees consisting of 143 full-time employees and 13 part-time employees.

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ITEM 1A - RISK FACTORS

An investment in the registrant’s common stock involves a number of risks. We urge you to read all of the information contained in this annual report on Form 10-K. In addition, we urge you to consider carefully the following factors before you invest in shares of the registrant’s common stock.

We may not be able to maintain and manage our growth, which may adversely affect our results of operations and financial condition and the value of our common stock.

Our strategy has been to increase the size of our company by opening new offices, acquiring other banks and by pursuing business development opportunities. We have grown rapidly since we commenced operations. We can provide no assurance that we will continue to be successful in increasing the volume of loans and deposits at acceptable risk levels and upon acceptable terms while managing the costs and implementation risks associated with our growth strategy. There can be no assurance that our further expansion will be profitable or that we will continue to be able to sustain our historical rate of growth, either through internal growth or through successful expansion of our markets, or that we will be able to maintain capital sufficient to support our continued growth. If we grow too quickly, however, and are not able to control costs and maintain asset quality, rapid growth also could adversely affect our financial performance.

Changes in interest rates affect our interest margins, which can adversely affect our profitability.

We may not be able to effectively manage changes in interest rates that affect what we charge as interest on our earning assets and the expense we must pay on interest-bearing liabilities, which may significantly reduce our earnings. Since rates charged on our loans often tend to react to market conditions faster than do rates paid on our deposit accounts, these rate cuts have had a negative impact on our earnings until we could make appropriate adjustments in our deposit rates. Fluctuations in interest rates are not predictable or controllable and, therefore, there can be no assurances of our ability to continue to maintain a consistent positive spread between the interest earned on our earning assets and the interest paid on our interest-bearing liabilities.

Our profitability depends significantly on economic conditions in our market area.

Our success depends to a large degree on the general economic conditions in our market areas. The local economic conditions in these areas have a significant impact on the amount of loans that we make to our borrowers, the ability of our borrowers to repay these loans and the value of the collateral securing these loans. A significant decline in general economic conditions caused by inflation, recession, unemployment or other factors beyond our control would impact these local economic conditions and could negatively affect our financial condition and performance.

If we lose key employees with significant business contacts in our market area, our business may suffer.  

Our success is largely dependent on the personal contacts of our officers and employees in our market area. If we lose key employees temporarily or permanently, our business could be hurt. We could be particularly hurt if our key employees went to work for our competitors. Our future success depends on the continued contributions of our existing senior management personnel.

If we experience greater loan losses than anticipated, it will have an adverse effect on our net income.

While the risk of nonpayment of loans is inherent in banking, if we experience greater nonpayment levels than we anticipate, our earnings and overall financial condition, as well as the value of our common stock, could be adversely affected.

We cannot assure you that our monitoring procedures and policies will reduce certain lending risks or that our allowance for loan losses will be adequate to cover actual losses. In addition, as a result of the rapid growth in our loan portfolio, loan losses may be greater than management’s estimates. Loan losses can cause insolvency and failure of a financial institution and, in such an event, our stockholders could lose their entire investment. In addition, future provisions for loan losses could materially and adversely affect our profitability. Any loan losses will reduce the loan loss allowance. A reduction in the loan loss allowance will be restored by an increase in our provision for loan losses. This would reduce our earnings, which could have an adverse effect on our stock price.

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In order to be profitable, we must compete successfully with other financial institutions which have greater resources and capabilities than we do.

The banking business in North Carolina in general is extremely competitive. Most of our competitors are larger and have greater resources than we do and have been in existence a longer period of time. We must overcome historical bank-customer relationships to attract customers away from our competition. We compete with the following types of institutions:

·  other commercial banks ·  savings banks ·  thrifts ·  credit unions ·  consumer finance companies ·  securities brokerage firms ·  mortgage brokers ·  insurance companies ·  mutual funds ·  trust companies

Some of our competitors are not regulated as extensively as we are and, therefore, may have greater flexibility in competing for business. Some of these competitors are subject to similar regulation but have the advantages of larger established customer bases, higher lending limits, extensive branch networks, numerous automated teller machines, greater advertising-marketing budgets or other factors.

Our legal lending limit is determined by law. The size of the loans which we offer to our customers may be less than the size of the loans that larger competitors are able to offer. This limit may affect to some degree our success in establishing relationships with the larger businesses in our market.

New or acquired branch facilities and other facilities may not be profitable.

We may not be able to correctly identify profitable locations for new branches and the costs to start up new branch facilities or to acquire existing branches, and the additional costs to operate these facilities, may increase our noninterest expense and decrease earnings in the short term. If other banks or branches of other banks become available for sale, we may acquire them. It may be difficult to adequately and profitably manage our growth through the establishment of these branches. In addition, we can provide no assurance that these branch sites will successfully attract enough deposits to offset the expenses of operating these branch sites. Any new or acquired branches will be subject to regulatory approval, and there can be no assurance that we will succeed in securing such approvals.

Government regulations may prevent or impair our ability to pay dividends, engage in additional acquisitions, or operate in other ways.

Current and future legislation and the policies established by federal and state regulatory authorities will affect our operations. We are subject to supervision and periodic examination by the Federal Reserve Board and the North Carolina Commissioner of Banks. Our principal subsidiary, Waccamaw Bank, as a state-chartered member bank, also receives regulatory scrutiny from the North Carolina Commissioner of Banks and the Federal Reserve. Banking regulations are designed primarily for the protection of depositors rather than stockholders, and they may limit our growth and the return to you as an investor by restricting its activities, such as:

· the payment of dividends to stockholders;

· possible transactions with or acquisitions by other institutions;

· desired investments;

· loans and interest rates;

· interest rates paid on deposits;

· the possible expansion of branch offices; and

· the ability to provide securities or trust services.

We are registered with the Federal Reserve Board as a financial holding company. We cannot predict what changes, if any, will be made to existing federal and state legislation and regulations or the effect that such changes may have on our business. The cost of compliance with regulatory requirements may adversely affect our ability to operate profitably.

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Our stock trading volume has been low compared with larger financial holding companies.

The trading volume in our common stock on the Nasdaq Global Market has been comparable to other similarly sized bank holding companies since trading on the Global Market began. Nevertheless, this trading volume does not compare with more seasoned companies listed on other stock exchanges. Thus, the market in our common stock is somewhat limited in scope relative to some other companies. In addition, we can provide no assurance that a more active and liquid trading market for our stock will develop in the future.

Our articles of incorporation include anti-takeover provisions that may prevent stockholders from receiving a premium for their shares or effecting a transaction favored by a majority of stockholders.

Our articles of incorporation include anti-takeover provisions, including a supermajority vote requirement for a merger under certain circumstances as well as a provision allowing our Board of Directors to consider the social and economic effects of a proposed merger. Such provisions may have the effect of preventing Stockholders from receiving a premium for their shares of common stock and discouraging a change of control by allowing management to prevent a transaction favored by a majority of the Stockholders.

Our securities are not FDIC insured.

Our common stock is not a savings or deposit account or other obligation of the Bank, and is not insured by the Federal Deposit Insurance Corporation or any other governmental agency and is subject to investment risk, including the possible loss of principal.

ITEM 1B - UNRESOLVED STAFF COMMENTS

Not applicable

ITEM 2 - PROPERTIES

The Company purchased a 2.44 acre tract of real estate in March of 1999 for $233,318 from a Company director to be used as a construction site for a banking facility. This transactions was effected at arm’s length and management believes that the purchase price was at or below fair market value. The construction was completed in April of 2001 at a cost of $1.8 million. The two story building has approximately 12,000 finished square feet. In addition to the tellers inside the building, the Bank utilizes 3 drive-up lanes and an ATM to service the needs of customers.

The Bank has two additional branches in Columbus County located at 105 Hickman Road, Tabor City, North Carolina and 111 Strawberry Boulevard, Chadbourn, North Carolina. The Tabor City Branch is located in a 3,800 square foot building that includes two drive-up lanes and an ATM. The property is leased for $33,474 per year. The lease was assumed from the prior tenant and expires in 2011. The Bank has the option to extend the lease for four additional five year terms.

The Chadbourn branch is a one-story brick building with approximately 2,500 square feet of floor space that was leased following a Centura branch acquisition. The Bank has a five year lease with the option to renew for five additional terms of five years each. The branch also has drive-up facilities.

The Bank has seven branches located in Brunswick County, two in Shallotte, North Carolina, one in Holden Beach, North Carolina, two in Southport, North Carolina, one in Ocean Isle, North Carolina and one in Oak Island, North Carolina. The Shallotte Main Street branch is housed in a 2,521 square foot facility that includes two drive-up lanes and an ATM. The building is leased for a term of ten years beginning on February 1, 2000. The Bank has the option to renew the lease for three additional terms of five years.

The Shallotte Smith Street branch is housed in a 3,515 square foot facility that includes one drive-up lane and an ATM. The land and building were purchased at a cost of $2.2 million in September 2007 from BB&T.

The Holden Beach branch is housed in a 1,200 square foot facility that includes one drive-up lane and an ATM. The building is leased for a term of five years beginning on October 10, 2000. The Bank has the option to renew the lease for five additional terms of five years.

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The Southport Howe Street branch is housed in a 1,860 square foot facility. The land and building are leased for a term of five years beginning on March 1, 2005. The Bank has the option to renew the lease for five additional terms of five years.

The Southport Supply Road branch is housed in a 3,858 square foot facility. The construction was completed in December 2006 at a cost of $1.2 million. The land is leased for a term of five years beginning on March 1, 2005. The Bank has the option to renew the lease for five additional terms of five years.

The Oak Island branch is housed in a 2,490 square foot facility. The land and building were purchased from BB&T at a cost of $1.5 million and has one drive-up lane and an ATM.

The Elizabethtown branch is housed in a 2,016 square foot facility. The land is leased for a term of five years beginning on November 7, 2005.

The Kerr Avenue branch in Wilmington is housed in a 3,000 square foot facility that includes two drive-up lanes and an ATM. The building is leased for a term of five years beginning on August 1, 2004. The Bank has a five year lease with the option to renew for five additional terms of five years.

The Heath Springs branch is housed in a 5,500 square foot facility. The building was purchased from The Bank of Heath Springs for $463,168.

The Ocean Isle branch is housed in a 2,982 square foot facility and has one drive-up lane and an ATM. The construction was completed in July 2007 at a cost of $921,000. The land is leased for a term of ten years beginning on March 1, 2007. The bank has the option to renew the lease for four additional terms of five years.

The Conway 16^th Avenue branch is housed in a 1,350 square foot facility. The Bank has a five year lease beginning on September 1, 2006. The Conway branch is also leasing a 1,536 square foot facility for a term of eighteen months beginning on July 1, 2007.

The Conway Medical Center branch is housed in a 1,508 square foot facility. The building was purchased for $600,000 from BB&T and has one drive-up lane and an ATM.

The Myrtle Beach branch is housed in a 2,400 square foot facility and has one drive-up lane and an ATM. The lease was assumed from BB&T and expires in 2010 with the option to renew the lease for an additional term of five years.

The bank has an operations center located on Madison Street in Whiteville which is housed in a 7,700 square foot facility. The building is leased for a term of seven years beginning on January 1, 2006. The Bank has the option to renew the lease for five additional terms of five years.

ITEM 3 - LEGAL PROCEEDINGS

The Company is not party to, nor is any of its property the subject of, any material pending legal proceeding incidental to the business of the Company or the Bank.

ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matter was submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this report.

10

PART II

ITEM 5 - MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

The Company’s articles of incorporation authorize it to issue up to 25,000,000 shares of common stock, no par value, of which 5,436,970 shares were issued and outstanding as of March 20, 2008. The stock is listed on the NASDAQ Global Market under the symbol “WBNK”

The approximate number of holders of the Company’s shares of common stock as of March 20, 2008 is 1,900. There were 45,978 shares issued and outstanding of the Company’s Series A convertible preferred stock as of March 20, 2008.

The Board of Directors anticipates that all or substantially all of the Company’s earnings in the foreseeable future will be required for use in the development of the Company’s business. The payment of future cash dividends will be determined by the Board of Directors and is dependent upon the receipt of dividends from the Bank. To date, the Company has not paid any cash dividends.

The availability of dividends from the Bank is dependant on the Bank’s earnings, financial condition, business projections, and other pertinent factors. In addition, North Carolina banking law will prohibit the payment of cash dividends if the bank’s surplus is less than 50% of its paid-in capital. Also, under federal banking law, no cash dividend may be paid if the Bank is undercapitalized, or insolvent or if payment of the cash dividend would render the Bank undercapitalized or insolvent, and no cash dividend may be paid by the Bank if it is in default of any deposit insurance assessment due to the FDIC.

Set forth below are the approximate high and low (bid quotations/sales price), known to the management of the Company, for each quarter in the last three fiscal years. These quotations reflect inter-dealer prices, without retail mark-up, mark-down, or commissions and may not represent actual transactions.

	2007				2006				2005
	High		Low		High		Low		High		Low
First Quarter	$	15.90	$	14.00	$	17.27	$	15.91	$	17.50	$	15.68
Second Quarter		14.75		12.91		16.12		14.77		17.05		15.91
Third Quarter		13.86		11.69		16.58		13.81		18.86		16.36
Fourth Quarter		14.00		10.25		16.36		13.75		17.77		15.91

See Item 12 of this report for disclosure regarding securities authorized for issuance and equity compensation plans required by Item 201(d) of Regulation S-K.

On December 20, 2006, the Company sold 59,192 units, each consisting of one share of the Company’s Series A Preferred Stock and one warrant to purchase one share of common stock at $24.00. The units were sold for $17.00 each for an aggregate offering price of $1,006,264. The units were privately placed in accordance with, and in a transaction exempt from registration under the Securities Act of 1933 by, Section 4(2) of the Securities Act, Regulation D and Rule 506 thereunder. The units were sold to 20 individuals or entities, inclusive of accredited and non-accredited investors as those terms are defined by Regulation D.

The Series A Preferred Stock, issued in connection with the unit placement, is convertible to shares of common stock of the Company at the election of the holder of the Series A Preferred Stock on a date which is not before one year and one day after the units were first issued or at the election of the Company if the holders of the Preferred Stock would be afforded any voting rights under North Carolina law. The warrants may be converted into shares of common stock upon the payment by the holder of the exercise price of $21.82 per share (adjusted for 11 for 10 stock split in 2007). The warrants may be exercised at any time before 5:00 p.m., Eastern Standard Time, September 30, 2009.

11

ITEM 6 - SELECTED FINANCIAL DATA

	2007			2006			2005			2004			2003
	(thousands, except share data and ratios)
Summary of Operations:
Interest income	$	31,637		$	25,379		$	18,228		$	11,450		$	9,957
Interest expense		16,296			11,226			7,536			3,766			3,627
Net interest income		15,341			14,153			10,692			7,684			6,330
Provision for credit losses		386			1,450			1,370			819			730
Net interest income after provision
for loan losses		14,955			12,703			9,322			6,865			5,600
Total non-interest income		3,443			2,581			2,269			2,445			2,053
Total non-interest expense		12,440			9,422			6,967			5,687			4,436
Income before income taxes		5,958			5,862			4,624			3,623			3,217
Income tax (expense) benefit		(2,049	)		(2,210	)		(1,589	)		(1,209	)		(1,210	)
Net income	$	3,909		$	3,652		$	3,035		$	2,414		$	2,007
Per Common Share Data: 1
Basic earnings per share	$	.73		$	.71		$	.61		$	.49		$	.41
Diluted earnings per share		.72			.69			.58			.47			.39
Market Price
High		15.90			17.27			18.86			24.68			10.98
Low		10.25			13.81			15.68			9.85			6.31
Close		10.50			14.88			16.14			16.36			10.32
Book value		6.44			5.77			4.48			3.99			3.45
Selected Average Balances:
Total assets	$	438,579		$	356,675		$	302,381		$	217,035		$	177,563
Loans, net		332,451			279,625			238,579			168,757			137,403
Securities		65,454			46,561			31,257			29,068			19,663
Interest-earning assets		404,329			331,713			284,320			200,982			165,847
Deposits		354,512			298,324			252,994			169,162			147,663
Interest-bearing liabilities		366,266			295,596			256,492			179,696			146,438
Shareholders’ equity		33,501			25,945			20,254			17,941			15,633
Selected Year-End Balance Sheet Data:
Total assets	$	508,368		$	399,581		$	322,792		$	258,412		$	193,207
Loans, net		355,138			312,253			257,575			206,666			142,342
Securities		102,644			52,986			35,214			30,232			24,053
Interest-earning assets		458,695			374,047			306,987			247,432			181,648
Deposits		378,179			327,352			271,035			207,642			154,796
Interest-bearing liabilities		437,207			315,346			273,171			218,592			158,828
Shareholders’ equity		35,023			31,703			22,499			19,899			16,963
Selected Performance Ratios:
Return on average assets		.89	%		1.02	%		1.00	%		1.11	%		1.13	%
Return on average equity		11.67	%		14.07	%		14.98	%		13.46	%		12.84	%
Net interest margin		3.79	%		4.27	%		3.76	%		3.82	%		3.82	%
Asset Quality Ratios:
Nonperforming loans to period-end loans		1.24	%		.49	%		80	%		1.16	%		.93	%
Allowance for loan losses to period-end loans		1.49	%		1.54	%		1.50	%		1.33	%		1.53	%
Net loan charge-offs to average loans		(.03	)%		.20	%		.09	%		0.15	%		0.27	%
Capital Ratios:
Total risk-based capital		10.88	%		11.82	%		12.36	%		13.64	%		14.24	%
Tier 1 risk-based capital		9.63	%		10.57	%		11.11	%		10.53	%		12.91	%
Leverage ratio		8.70	%		9.61	%		9.37	%		9.44	%		10.47	%
Equity to assets ratio		6.89	%		7.93	%		6.97	%		7.70	%		8.78	%
Capital Ratios:
Number of banking offices		16			11			8			6			5
Number of full time equivalent employees		150			109			85			73			58

¹ Adjusted for the effects of 6 for 5 stock splits in 2003 and 2004, 2 for 1 stock split in 2004 and 11 for 10 stock split in 2007.

12

ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION

The information required by this item is incorporated by reference to the Company’s 2007 annual report to stockholders.

ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company’s profitability is dependent to a large extent upon its net interest income, which is the difference between its interest income on interest-bearing assets, such as loans and investments, and its interest expense on interest-bearing liabilities, such as deposits and borrowings. The Company’s primary market risk is interest rate risk, which is the result of differing maturities or repricing intervals of interest-earning assets and interest-bearing liabilities with the goals of minimizing interest rate fluctuations in its net interest income. The Company does not maintain a trading account, nor is it subject to currency exchange risk or commodity price risk.

The Company’s Asset/Liability Committee (“ALCO”) meets on a monthly basis in order to assess interest rate risk, liquidity, capital and overall balance sheet management through rate shock analysis measuring various interest rate scenarios over the future 12 months. Through ALCO, the Company is able to determine fluctuations to net interest income from changes in the Prime Rate of up to 300 basis points up or down during a 12-month period. ALCO also reviews policies and procedures related to funds management and interest rate risk based on local, national and global economic conditions along with funding strategies and balance sheet management to minimize the potential impact of earnings and liquidity from interest rate movements.

The following table presents information about the contractual maturities, average interest rates and estimated fair values of the Company’s financial instruments that are considered market risk sensitive.

Expected Maturities of Market Sensitive Instruments Held at December 31, 2007

($ in thousands)

											Average			Estimated
	1-3		4-12		13-60		Over 60				Interest			Fair
	Months		Months		Months		Months		Total		Rate			Value
Earning Assets:
Loans	$	213,459	$	21,851	$	88,671	$	36,996	$	360,977		8.27	%	$	361,047
Investments		794		14		5,881		95,955		102,644		5.81	%		102,644
Deposits with banks		912		-		-		-		912		5.19	%		912
Total		215,165		21,865		94,552		132,951		464,533		7.82	%		464,603
Interest-bearing liabilities:
Demand accounts		24,841		-		-		-		24,841		.62	%		24,841
Savings and money market		71,760		-		-		-		71,760		3.35	%		71,760
Time deposits		63,399		165,871		16,314		3,624		249,208		5.05	%		249,715
Repurchase agreements and
purchased funds		24,651		10,000		10,000		-		44,651		5.08	%		44,651
Other borrowings		14,248		7,000		11,500		14,000		46,748		5.96	%		45,698
Total	$	198,899	$	182,871	$	37,814	$	17,624	$	437,208		4.46	%	$	436,665

13

ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The following financial statements of the Company and the Report of independent registered public accounting firm set forth on pages 6 through 39 of the Company’s 2007 Annual Report to Stockholders are incorporated herein by reference:

1. Consolidated Balance Sheets as of December 31, 2007 and 2006

2. Consolidated Statements of Income for the years ended December 31, 2007, 2006 and 2005

3. Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2007, 2006 and 2005

4. Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005

5. Notes to Consolidated Financial Statements

6. Report of independent registered public accounting firm

ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A(T) - CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

At the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Securities Exchange Act Rule 13a-14.

Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective (1) to provide reasonable assurance that information required to be disclosed by the Company in the reports filed or submitted by it under the Securities Exchange Act was recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (2) to provide reasonable assurance that information required to be disclosed by the Company in such reports is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow for timely decisions regarding required disclosure. 

Management's Report on Internal Control over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. The Company's internal control over financial reporting is a process designed under the supervision of the Company's CEO and CFO to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company's financial statements for external reporting purposes in accordance with U.S. generally accepted accounting principles. Management has made a comprehensive review, evaluation and assessment of the Company's internal control over financial reporting as of December 31, 2007. In making its assessment of internal control over financial reporting, management used the criteria issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control−−Integrated Framework. In accordance with Section 404 of the Sarbanes−Oxley Act of 2002, management makes the following assertions:

· Management has implemented a process to monitor and assess both the design and operating effectiveness of internal control over financial reporting.

14

· All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

· The Company’s management assessed the effectiveness of the company’s internal control over financial reporting as of December 31, 2007. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework. Based on that assessment, we believe that, as of December 31, 2007, the company’s internal control over financial reporting is effective based on those criteria.

This annual report does not include an attestation report of the company's registered public accounting firm regarding internal control over financial reporting. Management's report was not subject to attestation by the company's registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the company to provide only management's report in this annual report.

Changes in Internal Control over Financial Reporting

Management of the Company has evaluated, with the participation of the Company's CEO and CFO, changes in the Company's internal controls over financial reporting (as defined in Rule 13a−15(f) and 15d−15(f) of the Exchange Act) during the fourth quarter of 2007. In connection with such evaluation, the Company has determined that there have been no changes in internal control over financial reporting during the fourth quarter that have materially affected or are reasonably likely to materially affect, the Company's internal control over financial reporting.

ITEM 9B - OTHER INFORMATION

None.

PART III

ITEM 10 - DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

The information required by this item is incorporated by reference to the Company’s proxy statement for the 2008 Annual Meeting of Stockholders, pages 4-10 and 19-20.

Code of Ethics

The Company’s Board of Directors has adopted a Code of Ethics that applies to its directors and to all of its executive officers, including without limitation its principal executive officer and principal financial officer. A copy of the Company’s Code of Ethics is provided at the Company’s website: www.waccamawbank.com.

ITEM 11 - EXECUTIVE COMPENSATION

The information required by this item is incorporated by reference to the Company’s proxy statement for the 2008 Annual Meeting of Stockholders, pages 11-18.

15

ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Certain information required by this item is incorporated by reference to the Company’s proxy statement for the 2008 Annual Meeting of Stockholders, pages 3-4.

Set forth below is certain information regarding the Company’s various stock option plans.

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants, and rights (a)		Weighted-average exercise price of outstanding options, warrants, and rights (b)		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) (c)
Equity compensation plans approved by security holders		367,656	$	12.72		154,524
Equity compensation plans not approved by security holders		None		None		None
Total		367,656	$	12.72		154,524

ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The information required by this item is incorporated by reference to the Company’s proxy statement for the 2008 Annual Meeting of Stockholders, pages 6 and 9.

ITEM 14 - PRINCIPAL ACCOUNTING FEES AND SERVICES

The information required by this item is incorporated by reference to the Company’s proxy statement for the 2008 Annual Meeting of Stockholders, pages 18-19.

16

PART IV

ITEM 15 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a) The following documents are filed as part of this report:

1. Financial statements from the Registrant’s Annual Report to stockholders for the fiscal year ended December 31, 2007, which are incorporated herein by reference:

Consolidated Balance Sheets as of December 31, 2007 and 2006.

Consolidated Statements of Income for the years ended December 31, 2007, 2006 and 2005.

Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2007, 2006 and 2005.

Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005.

Notes to Consolidated Financial Statements.

Report of independent registered public accounting firm.

2. Financial statement schedules required to be filed by Item 8 of this Form:

None

17

3. Exhibits

EXHIBIT NUMBER	DESCRIPTION OF EXHIBIT
3.1	Registrant’s Articles of Incorporation*
3.2	Registrant’s Bylaws*
4.1	Specimen Stock Certificate**
10.1	Employment Agreement of James G. Graham***
10.2	Waccamaw Bank 1998 Incentive Stock Option Plan***
10.3	Waccamaw Bank 1998 Nonstatutory Stock Option Plan***
10.4	Supplemental Executive Retirement Plan
13	Annual Report to Stockholders (Filed herewith)
21	Subsidiaries of Registrant (Filed herewith)
31(i)
31(ii)	Certification of Principal Accounting Officer Pursuant to Section 302 of the Sarbanes Oxley Act (Filed herewith)
32	Certification Pursuant to Section 906 of the Sarbanes Oxley Act (Filed herewith)
99	Registrant’s Definitive Proxy Statement****

* Incorporated by reference from exhibits 3(i) and 3(ii) to Registrant’s Current Report on Form 8-K12g3, as filed with the Commission on July 1, 2001.

** Incorporated by reference from exhibit 4.1 to Registrant’s Annual Report on Form 10-KSB for the year ended December 31, 2001.

*** Incorporated by reference from Exhibits 10.2, 10.3 and 10.4 to Annual Report on Form 10-KSB of Waccamaw Bank, as filed with the FDIC.

**** Filed with the Commission pursuant to Rule 14a-6.

18

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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

	WACCAMAW BANKSHARES, INC.
March 28, 2007		/s/ James G. Graham
		James G. Graham
		President and Chief Executive Officer

March 28, 2007	/s/ David A. Godwin
	David A. Godwin
	Vice-President and Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has to be signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Signature	Title	Date
/s/ James G. Graham	President and	March 20, 2008
James G. Graham	Chief Executive Officer
/s/ M. B. “Bo” Biggs	Director	March 20, 2008
M. B. “Bo” Biggs
/s/ Dr. Maudie M. Davis	Director	March 20, 2008
Dr. Maudie M. Davis
/s/ E. Autry Dawsey, Sr.	Director	March 20, 2008
E. Autry Dawsey, Sr.
/s/ Monroe Enzor, III	Director	March 20, 2008
Monroe Enzor, III
/s/ James E. Hill, Jr.	Director	March 20, 2008
James E. Hill, Jr.
/s/ Alan W. Thompson	Director, Chairman	March 20, 2008
Alan W. Thompson	of the Board
/s/ Dale Ward	Director	March 20, 2008
Dale Ward
/s/ J. Densil Worthington	Director	March 20, 2008
J. Densil Worthington
/s/ Brian Campbell	Director	March 20, 2008
Brian Campbell

19

EXHIBIT INDEX

EXHIBIT NUMBER	DESCRIPTION OF EXHIBIT
3.1	Registrant’s Articles of Incorporation*
3.2	Registrant’s Bylaws*
4.1	Specimen Stock Certificate**
10.1	Employment Agreement of James G. Graham***
10.2	Waccamaw Bank 1998 Incentive Stock Option Plan***
10.3	Waccamaw Bank 1998 Nonstatutory Stock Option Plan***
10.4	Supplemental Executive Retirement Plan
13	Annual Report to Stockholders (Filed herewith)
21	Subsidiaries of Registrant (Filed herewith)
31(i)	Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes Oxley Act (Filed herewith)
31(ii)	Certification of Principal Accounting Officer Pursuant to Section 302 of the Sarbanes Oxley Act (Filed herewith)
32	Certification Pursuant to Section 906 of the Sarbanes Oxley Act (Filed herewith)
99	Registrant’s Definitive Proxy Statement****

 

* Incorporated by reference from exhibits 3(i) and 3(ii) to Registrant’s Current Report on Form 8-K12g3, as filed with the Commission on July 1, 2001.

** Incorporated by reference from exhibit 4.1 to Registrant’s Annual Report on Form 10-KSB for the year ended December 31, 2001.

*** Incorporated by reference from Exhibits 10.2, 10.3 and 10.4 to Annual Report on Form 10-KSB of Waccamaw Bank, as filed with the FDIC.

**** Filed with the Commission pursuant to Rule 14a-6.

20

INTRODUCTION

Table of Contents
Introduction	1
Statement of Mission	2
Stock Performance	2
Significant Trends	3
Financial Highlights	4
Shareholder Letter	5
Consolidated Balance Sheets	7
Consolidated Statements of Income	8
Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Income	9
Consolidated Statements of Cash Flows	10
Notes to Consolidated Financial Statements	12
Report of Independent Registered Public Accounting Firm	39
Management’s Discussion and Analysis	40
Stockholder Information	57

1

STATEMENT OF MISSION

Waccamaw Bank serves a principled mission:

• to be the strongest independent bank in the coastal Carolina region;

• to offer fairly priced products and services that meet the financial needs of our community;

• to operate in an efficient manner designed for customer convenience;

• to be a good corporate neighbor within our communities;

• to maintain safety, soundness and profitability;

• to care for a quality staff that supports this mission.

STOCK PERFORMANCE

	Period Ending
Index	12/31/02	12/31/03	12/31/04	12/31/05	12/31/06	12/31/07
Waccamaw Bankshares, Inc.	100.00	181.60	288.00	284.00	261.92	184.80
NASDAQ Composite	100.00	150.01	162.89	165.13	180.85	198.60
SNL Southeast Bank Index	100.00	125.58	148.92	152.44	178.75	134.65

2

Significant Trends

3

Financial Highlights Summary¹

	2007			2006			2005			2004			2003
Summary of Operations
Interest income	$	31,637		$	25,379		$	18,228		$	11,450		$	9,957
Interest expense		(16,296	)		(11,226	)		(7,536	)		(3,766	)		(3,627	)
Net interest income		15,341			14,153			10,692			7,684			6,330
Provision for loan losses		(386	)		(1,450	)		(1,370	)		(819	)		(730	)
Other income		3,443			2,581			2,269			2,445			2,053
Other expense		(12,440	)		(9,422	)		(6,967	)		(5,687	)		(4,436	)
Income tax expense		(2,049	)		(2,210	)		(1,589	)		(1,209	)		(1,210	)
Net income	$	3,909		$	3,652		$	3,035		$	2,414		$	2,007
Per Share Data2
Basic earnings per share	$	.73		$	.71		$	.61		$	.49		$	.41
Diluted earnings per share		.72			.69			.58			.47			.39
Book value		6.44			5.77			4.48			3.99			3.45
Average Balance Sheet Summary
Loans, net	$	332,451		$	279,625		$	238,579		$	168,757		$	137,403
Securities		65,454			46,561			31,257			29,068			19,663
Total assets		438,579			356,675			302,381			217,035			177,563
Deposits		354,512			298,324			252,994			169,162			147,663
Shareholders’ equity		33,501			25,945			20,254			17,941			15,633
Selected Ratios
Average equity to average assets		7.64	%		7.27	%		6.70	%		8.27	%		8.80	%
Return on average assets		.89	%		1.02	%		1.00	%		1.11	%		1.13	%
Return on average equity		11.67	%		14.07	%		14.98	%		13.46	%		12.84	%

¹In thousands of dollars, except per share data.

²Adjusted for the effects of 6 for 5 stock splits in 2003 and 2004, 2 for 1 stock split in 2004 and 11 for 10 stock split in 2007.

4

To Our Shareholders, Clients and Friends:

We are pleased to report 2007 proved to be a significant year in the progress of Waccamaw Bankshares, Inc. It was a year in which the bank celebrated its tenth year of operations and saw significant growth and expansion as we worked hard to position the bank for the future. As you will find in this report we achieved another year of record earnings and created a much stronger franchise as we took advantages of opportunities within our market to open five new offices prior to the end of 2007. Waccamaw Bankshares, Inc. is optimistic about our company’s expansion as we continue to grow Coastal Carolina Strong.

With assets over $500 million dollars, it is with significant pride the directors, management and staff report record profits for the year end of December 31, 2007—$3.9 million dollars—a 7.04% increase over the $3,652,016 earned in 2006. It is significant to note that Waccamaw Bankshares, Inc. assets passed the major $500 million dollar milestone and closed the year at $508,367,919 in total assets; a 27.2% increase over 2006.

The banking industry faced many challenges during the year with declining interest rates, questionable credit quality in some segments of our industry and a slowing national economy. We are pleased to report that the bank has absolutely no exposure to sub prime mortgages and continues to work very hard to protect what we believe is strong asset quality.

In addition to the financial performance of 2007, we continued to branch in the very strongest markets available to the bank. We strengthened the bank’s franchise by opening three additional offices in fast growing Brunswick County, North Carolina with offices in Sunset Beach, Oak Island and a second office in Shallotte. The bank also took the opportunity to continue our expansion into economically attractive Horry County, South Carolina with a second office in the Conway area and a new office in south Myrtle Beach. This expansion gives us four offices in South Carolina with three in Horry County. Our fourth office in Horry County, South Carolina will be located in Little River and is currently under construction with a second quarter 2008 scheduled opening. At the close of 2007, the bank operates a total of 16 full service offices in a footprint not duplicated by any other community banking franchise. It is our belief this creates substantial value for our shareholders and well positions the bank for the years to come. The bank began a significant new marketing effort in September as we celebrated our tenth anniversary. The marketing effort that began simultaneously with our tenth anniversary, Simply Free Checking is the centerpiece of the realignment of our entire consumer checking offerings. The response to date has been tremendous. This effort is bringing hundreds of new clients to our bank and gives us an opportunity to form solid relationships with these clients as well as supporting a much larger customer base.

5

It is without question that the national financial turmoil has served to weaken the values of financial companies and is likely to continue into 2008. While the bank enjoys a strong franchise, it cannot insulate itself from the interest rate environment which is causing a very rapid narrowing in net interest margins or other external economic factors. Asset quality for the bank remains satisfactory while net losses declined in 2007. The management and staff are working hard to provide the best possible financial results for the company as we proceed to capitalize on the new opportunities afforded to us by our branch expansion. We know that the new offices will perform well in the future and anticipate bringing them to a profitable status as quickly as possible.

While the national economy in 2008 provides a generous amount of uncertainties, we are optimistic that the staff and management of the bank will perform well despite these challenges. I would like to take this opportunity to thank you for your confidence and support. Each shareholder, client, and friend carries great value for Waccamaw Bankshares, Inc. We would like to thank our staff and the entire Waccamaw Bank family for the performance and for the value they add everyday. As you review this report, please feel free to contact us with any questions or comments. Thank you for banking with Waccamaw Bank.

Sincerely,

James G. Graham

President and Chief Executive Officer

Alan W. Thompson

Chairman of the Board

6

Consolidated Balance Sheets

December 31, 2007 and 2006

	2007			2006
Assets
Cash and due from banks	$	11,809,251		$	9,183,383
Interest-bearing deposits with banks		912,195			790,360
Total cash and cash equivalents		12,721,446			9,973,743
Federal funds sold		-			2,598,000
Investment securities, available for sale		99,302,322			50,529,163
Restricted equity securities		3,342,006			2,457,206
Loans, net of allowance for loan losses
of $5,385,782 in 2007 and $4,885,992 in 2006		355,138,167			312,253,190
Property and equipment, net		14,537,739			6,671,773
Goodwill		2,727,152			2,665,602
Intangible assets, net		673,374			930,555
Accrued income		2,939,264			2,627,020
Bank owned life insurance		11,777,361			5,419,130
Other assets		5,209,088			3,455,911
Total assets	$	508,367,919		$	399,581,293
Liabilities and Stockholders' Equity
Liabilities
Noninterest-bearing deposits	$	32,371,173		$	49,163,297
Interest-bearing deposits		345,808,162			278,188,470
Total deposits		378,179,335			327,351,767
Securities sold under agreements to repurchase		29,222,000			5,410,000
Federal funds purchased		15,429,300			-
Short-term borrowings		13,000,000			-
Long-term debt		25,500,000			23,500,000
Guaranteed preferred beneficial interest in the
company’s junior subordinated debentures		8,248,000			8,248,000
Accrued interest payable		2,125,673			1,412,300
Other liabilities		1,640,470			1,956,596
Total liabilities		473,344,778			367,878,663
Commitments and contingencies		-			-
Stockholders’ equity
Preferred stock, Series A, non-cumulative, non-voting,
no par value; 1,000,000 shares authorized;
48,178 and 65,111 issued and outstanding at
December 31, 2007 and 2006, respectively		793,967			993,112
Common stock, no par; 25,000,000 shares authorized;
5,434,770 and 5,320,666 shares issued and outstanding
at December 31, 2007 and 2006, respectively		23,785,199			17,338,231
Retained earnings		11,124,589			13,216,891
Accumulated other comprehensive (loss) income		(680,614	)		154,396
Total stockholders’ equity		35,023,141			31,702,630
Total liabilities and stockholders’ equity	$	508,367,919		$	399,581,293
See Notes to Consolidated Financial Statements

7

Consolidated Balance Sheets

	2007		2006			2005
Interest income
Loans and fees on loans	$	27,492,792	$	22,584,611		$	16,330,154
Investment securities, taxable		3,231,060		2,195,843			1,338,903
Investment securities, nontaxable		574,181		330,656			95,806
Federal funds sold		289,740		226,152			436,147
Deposits with banks		48,892		42,205			26,949
Total interest income		31,636,665		25,379,467			18,227,959
Interest expense
Deposits		13,669,795		9,488,101			6,313,174
Federal funds purchased and securities
sold under agreements to repurchase		468,792		225,725			76,247
Other borrowed funds		2,157,460		1,512,314			1,146,161
Total interest expense		16,296,047		11,226,140			7,535,582
Net interest income		15,340,618		14,153,327			10,692,377
Provision for loan losses		385,864		1,450,000			1,370,000
Net interest income after provision for loan losses		14,954,754		12,703,327			9,322,377
Noninterest income
Service charges on deposit accounts		1,325,296		1,100,378			1,094,649
Mortgage origination income		467,089		373,726			270,321
Income from financial services		304,383		289,958			87,084
Earnings on bank owned life insurance		390,160		239,998			193,639
Net realized gains (losses) on sale or maturity
of investment securities		246,128		(890	)		(1,062	)
Net realized gains on sale of interest
in mortgage banking investee		-		44,094			36,848
Other operating income		710,094		533,906			587,267
Total noninterest income		3,443,150		2,581,170			2,268,746
Noninterest expense
Salaries and employee benefits		6,856,453		5,274,052			3,733,723
Occupancy and equipment		1,513,300		1,105,461			805,095
Data processing		1,000,694		809,187			629,080
Amortization expense		281,819		272,712			252,712
Other expense		2,787,949		1,960,683			1,545,972
Total noninterest expense		12,440,215		9,422,095			6,966,582
Income before income taxes		5,957,689		5,862,402			4,624,541
Income tax expense		2,048,741		2,210,386			1,589,168
Net income available to common stockholders	$	3,908,948	$	3,652,016		$	3,035,373
Basic earnings per common share	$	.73	$	.71		$	.61
Diluted earnings per common share	$	.72	$	.69		$	.58
Weighted average common shares outstanding		5,365,617		5,127,107			4,997,725
Weighted average dilutive common shares outstanding		5,463,633		5,319,464			5,242,615
See Notes to Consolidated Financial Statements

8

Consolidated Statements of Changes in Stockholders' Equity and

Comprehensive Income

Years ended December 31, 2007, 2006 and 2005 

											Accumulated Other
		Preferred Stock			Common Stock			Retained Earnings			Comprehensive Income (Loss)			Total
December 31, 2004	$	-		$	13,142,612		$	6,529,502		$	226,443		$	19,898,557
Comprehensive income
Net income		-			-			3,035,373			-			3,035,373
Net change in unrealized appreciation
on investment securities available for
sale, net of income taxes of ($283,507)		-			-			-			(550,336	)		(550,336	)
Reclassification adjustment,
net of income taxes of $361		-			-			-			701			701
Total comprehensive income														2,485,738
Exercise of stock options		-			114,349			-			-			114,349
December 31, 2005		-			13,256,961			9,564,875			(323,192	)		22,498,644
Comprehensive income
Net income		-			-			3,652,016			-			3,652,016
Net change in unrealized appreciation
on investment securities available for
sale, net of income taxes of $245,728		-			-			-			477,001			477,001
Reclassification adjustment,
net of income taxes of $303		-			-			-			587			587
Total comprehensive income														4,129,604
Issuance of common stock		-			3,582,019			-			-			3,582,019
Issuance of preferred stock		1,006,264			-			-			-			1,006,264
Stock based compensation		-			88,063			-			-			88,063
Exercise of stock options		-			255,654			-			-			255,654
Excess tax benefits from stock-based
compensation		-			201,151			-			-			201,151
Stock issuance costs		(13,152	)		(45,617	)		-			-			(58,769	)
December 31, 2006		993,112			17,338,231			13,216,891			154,396			31,702,630
Comprehensive income
Net income		-			-			3,908,948			-			3,908,948
Net change in unrealized appreciation
on investment securities available for
sale, net of income taxes of ($346,473)		-			-			-			(672,565	)		(672,565	)
Reclassification adjustment,
net of income taxes of ($83,683)		-			-			-			(162,445	)		(162,445	)
Total comprehensive income														3,073,938
Effect of 10% common stock dividend		-			5,921,341			(5,921,341	)		-			-
Effect of 10% preferred stock dividend		79,909			-			(79,909	)		-			-
Stock based compensation		-			98,729			-			-			98,729
Exercise of stock options		-			97,979			-			-			97,979
Excess tax benefits from stock-based
compensation		-			60,029			-			-			60,029
Conversion of preferred stock to
common stock		(279,054	)		279,054			-			-			-
Redemption of fractional shares		-			(10,164	)		-			-			(10,164	)
December 31, 2007	$	793,967		$	23,785,199		$	11,124,589		$	(680,614	)	$	35,023,141
See Notes to Consolidated Financial Statements

9

  

Consolidated Statements of Cash Flows

Years ended December 31, 2007, 2006 and 2005

		2007			2006			2005
Cash flows from operating activities
Net income	$	3,908,948		$	3,652,016		$	3,035,373
Adjustments to reconcile net income to net
cash provided by operations:
Depreciation and amortization		800,845			630,247			522,383
Stock-based compensation		98,729			88,063			-
Provision for loan losses		385,864			1,450,000			1,370,000
Accretion of discount on securities, net of
amortization of premiums		31,555			72,027			87,726
(Gain)loss on sale of investment securities		(246,128	)		890			1,062
Gain on sale of investment in mortgage
banking investee		-			(44,094	)		(36,848	)
Income from bank owned life insurance, net		(358,231	)		(210,201	)		(178,855	)
Deferred taxes		(215,944	)		(307,088	)		(456,679	)
Benefit of non-qualified stock option exercise		60,029			201,151			-
Changes in assets and liabilities:
Accrued income		(312,244	)		(984,604	)		(467,118	)
Other assets		(1,195,987	)		(581,964	)		(871,991	)
Accrued interest payable		713,373			331,924			471,007
Other liabilities		(316,126	)		1,278,502			446,690
Net cash provided by operating activities		3,354,683			5,576,869			3,922,750
Cash flows from investing activities
Net (increase) decrease in federal funds sold		2,598,000			5,683,000			(3,752,000	)
Purchases of investment securities		(73,818,059	)		(15,946,980	)		(14,430,495	)
Maturities of investment securities		6,061,233			5,877,244			7,058,846
Net increase in loans		(43,270,841	)		(51,516,853	)		(52,310,314	)
Proceeds from sales of investment securities		17,048,272			1,155,000			1,468,057
Investment in bank owned life insurance		(6,000,000	)		-			-
Purchases of property and equipment		(8,382,268	)		(3,359,954	)		(367,814	)
Proceeds from sale of other real estate		-			82,475			371,193
Acquisition of The Bank of Heath Springs		-			(1,627,132	)		-
Net cash used in investing activities		(105,763,663	)		(59,653,200	)		(61,962,527	)
Cash flows from financing activities
Net increase (decrease) in noninterest-bearing deposits		(16,792,124	)		19,792,936			6,283,014
Net increase in interest-bearing deposits		67,619,692			22,135,837			57,110,760
Net increase (decrease) in securities sold under
agreements to repurchase		23,812,000			2,674,000			(532,000	)
Net increase in federal funds purchased		15,429,300			-			-
Net proceeds (repayments) from short-term borrowings		13,000,000			(10,000,000	)		-
Net proceeds (repayments) from long-term debt		2,000,000			17,000,000			(2,000,000	)
Proceeds from issuance of common stock		97,979			3,837,673			114,349
Proceeds from issuance of preferred stock		-			1,006,264			-
Stock issuance costs and redemption of fractional shares		(10,164	)		(58,769	)		-
Net cash provided by financing activities		105,156,683			56,387,941			60,976,123
Increase in cash and cash equivalents		2,747,703			2,311,610			2,936,346
Cash and cash equivalents, beginning		9,973,743			7,662,133			4,725,787
Cash and cash equivalents, ending	$	12,721,446		$	9,973,743		$	7,662,133
Supplemental disclosure of cash flow information
Interest paid	$	15,582,674		$	10,879,836		$	7,064,575
Taxes paid	$	2,099,800		$	2,505,414		$	2,068,880
Supplemental disclosure of noncash activities
Real estate acquired in settlement of loans	$	301,824		$	68,146		$	31,411
Issuance of stock in exchange for exercised stock
options and stock already outstanding	$	271,101		$	-		$	-
10% common stock dividend	$	5,921,341		$	-		$	-
10% preferred stock dividend	$	79,909		$	-		$	-
Continued

10

Consolidated Statements of Cash Flow, continued

For the years ended December 31, 2007, 2006 and 2005

Schedule of noncash investing transactions related to acquisition

	2007		2006		2005
Acquisition of The Bank of Heath Springs
Assets acquired
Investment securities	$	-	$	8,206,775	$	-
Loans, net of allowance for
loan losses $45,942		-		4,516,371		-
Property and equipment, net		-		302,351		-
Other assets		-		37,939		-
Goodwill		-		2,665,602		-
Core deposit intangible		-		300,000		-
		-		16,029,038		-
Liabilities assumed
Deposits		-		14,387,526		-
Other liabilities		-		14,380		-
		-		14,401,906		-
Net noncash assets acquired	$	-	$	1,627,132	$	-
Payment for net assets acquired
Cash paid at closing	$	-	$	8,000,000	$	-
Less cash acquired at closing		-		6,372,868		-
Net cash paid	$	-	$	1,627,132	$	-

See Notes to Consolidated Financial Statements

11

Notes to Consolidated Financial Statements

Note 1. Organization and Summary of Significant Accounting Policies

Organization

Waccamaw Bank (Bank) was organized and incorporated under the laws of the State of North Carolina on August 28, 1997 and commenced operations on September 2, 1997. The Bank currently serves Columbus, Brunswick, Bladen and New Hanover counties in North Carolina and Lancaster and Horry counties in South Carolina and surrounding areas through sixteen full service banking branches. As a state chartered bank which is a member of the Federal Reserve, the Bank is subject to regulation by the State of North Carolina Banking Commission and the Federal Reserve.

During 2001, Waccamaw Bankshares, Inc. (Company), a financial holding company chartered in North Carolina was formed. On June 30, 2001, Waccamaw Bankshares, Inc. acquired all the outstanding shares of Waccamaw Bank in a tax-free exchange. Waccamaw Financial Services, Inc. is a wholly owned subsidiary of Waccamaw Bank, the primary business activity of which is investment and insurance services.

The accounting and reporting policies of the Company, the Bank, and Waccamaw Financial Services follow generally accepted accounting principles and general practices within the financial services industry. Following is a summary of the more significant policies.

Critical Accounting Policies

We believe our policies with respect to the methodology for our determination of the allowance for loan losses, and asset impairment judgments, including the recoverability of intangible assets, involve a higher degree of complexity and require management to make difficult and subjective judgments which often require assumptions or estimates about highly uncertain matters. Changes in these judgments, assumptions or estimates could cause reported results to differ materially. These critical policies and their application are periodically reviewed with the Audit Committee and our Board of Directors.

Principles of Consolidation

Our consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.

Business Segments

The Company reports its activities as a single business segment. In determining the appropriateness of segment definition, the Company considers components of the business about which financial information is available and regularly evaluated relative to resource allocation and performance assessment.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses, the valuation of deferred tax assets and the valuation of real estate acquired in connection with foreclosures

or in satisfaction of loans. In connection with the determination of the allowances for loan and foreclosed real estate losses, management obtains independent appraisals for significant properties.

12

Notes to Consolidated Financial Statements

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

Use of Estimates, continued

The Bank’s loan portfolio consists primarily of loans in its market area. Accordingly, the ultimate collectibility of a substantial portion of the Bank’s loan portfolio and the recovery of a substantial portion of the carrying amount of foreclosed real estate are susceptible to changes in local market conditions. Management believes the economic outlook is positive.

While management uses available information to recognize loan and foreclosed real estate losses, future additions to the allowances may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as a part of their routine examination process, periodically review the Bank's allowances for loan and foreclosed real estate losses. Such agencies may require the Bank to recognize additions to the allowances based on their judgments about information available to them at the time of their examinations. Because of these factors, it is reasonably possible that the allowances for loan and foreclosed real estate losses may change materially in the near term.

Cash and Cash Equivalents

For the purpose of presentation in the statement of cash flows, cash and cash equivalents are defined as those amounts included in the balance sheet caption "cash and due from banks" and "interest-bearing deposits with banks".

Interest-Bearing Deposits with Banks

Interest-bearing deposits mature in one year or less and are carried at cost.

Trading Securities

The Bank does not hold securities for short-term resale and therefore does not maintain a trading securities portfolio.

Investment Securities

Debt securities that management has the positive intent and ability to hold to maturity are classified as “held to maturity” and recorded at amortized cost. Securities not classified as held to maturity or trading, including equity securities with readily determinable fair values, are classified as “available for sale” and recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income.

Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In determining whether other-than-temporary impairment exists, management considers many factors including (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

Loans

Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal amount adjusted for any charge-offs, the allowance for loan losses, and any deferred fees or costs on originated loans and unamortized premiums or discounts on purchased loans.

13

Notes to Consolidated Financial Statements

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

Loans, continued

Loan origination fees and certain direct origination costs are deferred and recognized as an adjustment of the yield of the related loan. Discounts and premiums on any purchased residential real estate loans are amortized to income using the interest method over the remaining period to contractual maturity, adjusted for anticipated prepayments. Discounts and premiums on any purchased consumer loans are recognized over the expected lives of the loans using methods that approximate the interest method.

Interest is accrued and credited to income based on the principal amount outstanding. The accrual of interest on impaired loans is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized on the cash-basis or cost-recovery method, as appropriate. When facts and circumstances indicate the borrower has regained the ability to meet required payments, the loan is returned to accrual status. Past due status of loans is determined based on contractual terms.

Allowance for Loan Losses

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

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

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

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

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

14

Notes to Consolidated Financial Statements

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

Property and Equipment

Land is carried at cost. Bank premises, furniture and equipment, and leasehold improvements are carried at cost, less accumulated depreciation and amortization computed principally by the straight-line method over the following estimated useful lives:

	Years
Leasehold improvements		5-30
Automobile		5
Furniture and equipment		3-10
Building		10-40

Goodwill

Goodwill represents the excess of the cost of an acquisition over the fair value of the net assets acquired. Goodwill is assessed at least annually for impairment. No impairment charges were necessary for the years presented.

Intangible Assets

Intangible assets consist primarily of purchased core deposit intangible assets and are accounted for in accordance with Statement of Financial Accounting Standard (“SFAS”) No. 112, Goodwill and Other Intangible Assets. The Company evaluates the remaining useful life of each intangible asset that is being amortized to determine whether events and circumstances warrant a revision to the remaining period of amortization. Intangible assets are currently being amortized over estimated useful lives of 10 years.

Foreclosed Assets

Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets. Foreclosed assets are included in other assets on the balance sheet.

Transfers of Financial Assets

Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Bank, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Bank does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.

Stock Compensation Plans

In December 2004, the Financial Accounting Standards Board ("FASB") issued SFAS No. 123 (revised 2004), Share-Based Payment. SFAS No. 123(R) requires that the compensation cost relating to share-based payment transactions be recognized in financial statements. That cost will be measured based on the fair value of the equity or liability instruments issued. SFAS No. 123(R) covers a wide range of share-based compensation arrangements including stock options, restricted share plans, performance-based awards, share appreciation rights, and employee share purchase plans. SFAS No. 123(R) is a replacement of SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees, and its related interpretive guidance. The effect of the Statement is to require entities to measure the cost of employee services received in exchange for stock options based on the grant-date fair value of the award, and to recognize the cost over the period the employee is required to provide services for the award. SFAS No. 123(R) permits entities to use any option-pricing model that meets the fair value objective in the Statement.

15

Notes to Consolidated Financial Statements

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

The Company elected to adopt SFAS No. 123(R) on January 1, 2006 under the modified prospective method. Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period. Compensation cost related to the non-vested portion of awards outstanding as of that date was based on the grant-date fair value of those awards as calculated under the original provisions of SFAS No. 123; that is, the Company was not required to re-measure the grant-date fair value estimate of the unvested portion of awards granted prior to the effective date of SFAS No. 123(R).

The Company had applied APB 25 and related Interpretations in accounting for the stock option plan prior to January 1, 2006. Under APB 25, stock options issued under the Company’s stock option plan have no intrinsic value at the grant date, and therefore, no compensation cost is recognized for them.

Advertising Expense

The Company expenses advertising costs as they are incurred. Advertising expense for the years ended December 31, 2007, 2006, and 2005 was approximately $593,000, $308,000 and $187,000, respectively.

Income Taxes

Provision for income taxes is based on amounts reported in the statements of income (after exclusion of non-taxable income such as interest on state and municipal securities) and consists of taxes currently due plus deferred taxes on temporary differences in the recognition of income and expense for tax and financial statement purposes. Deferred tax assets, net of a valuation allowance if appropriate, and liabilities are included in the financial statements at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes.

Deferred income tax liability relating to unrealized appreciation (or the deferred tax asset in the case of unrealized depreciation) on investment securities available for sale is recorded in other liabilities (assets). Such unrealized appreciation or depreciation is recorded as an adjustment to equity in the financial statements and not included in income determination until realized. Accordingly, the resulting deferred income tax liability or asset is also recorded as an adjustment to equity.

In 2006, the FASB issued Interpretation No. 48 (FIN 48), Accounting for Uncertainty in Income Taxes - an Interpretation of SFAS No. 109. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, Accounting for Income Taxes. FIN 48 also prescribes a recognition threshold and measurement of a tax position taken or expected to be taken in an enterprise’s tax return. FIN 48 is effective for fiscal years beginning after December 15, 2006. Accordingly, the Company adopted FIN 48 effective January 1, 2007. The adoption of FIN 48 did not have any impact on the Company’s net income or consolidated financial position.

16

Notes to Consolidated Financial Statements

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

Comprehensive Income

Comprehensive income consists of net income and other comprehensive income. Unrealized gains and losses on securities available for sale are included in other comprehensive income. Gains and losses on available for sale securities are reclassified to income as they are realized upon sale of the securities.

Basic Earnings per Common Share

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

Diluted Earnings per Common Share

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

Financial Instruments

Derivatives that are used as part of the asset/liability management process are linked to specific assets or liabilities and have high correlation between the contract and the underlying item being hedged, both at inception and throughout the hedge period. In addition, forwards and option contracts must reduce the risk attributed to a particular exposure, and for hedges of anticipatory transactions, the significant terms and characteristics of the transaction must be identified and the transactions must be probable of occurring. All derivative financial instruments held or issued by the Company are held or issued for purposes other than trading. There were no derivatives for the years presented in this report.

In the ordinary course of business the Bank has entered into off-balance-sheet financial instruments consisting of commitments to extend credit and commercial and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded or related fees are incurred or received.

Fair Value of Financial Instruments

Statement of Financial Accounting Standards No. 107, Disclosures about Fair Value of Financial Instruments, requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet. 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. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. SFAS No. 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:

Cash and due from banks: The carrying amounts reported in the balance sheet for cash and due from banks approximate their fair values.

17

Notes to Consolidated Financial Statements

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

Fair Value of Financial Instruments, continued

Interest-bearing deposits with banks: The carrying amounts of interest-bearing deposits that mature in ninety days approximate their fair value.Fair values of other interest-bearing deposits are estimated using a discounted cash flow analysis that applies interest rates currently offered on certificates to a schedule of aggregated contractual maturities on such time deposits.

Federal funds: Carrying amount of federal funds sold and purchased approximate fair values.

Securities: Fair values for securities, excluding restricted equity securities, are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. The carrying values of restricted equity securities approximate fair values.

Loans: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts. The fair values for other loans are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. Fair values for non-performing loans are estimated using discounted cash flow analysis or underlying collateral values, where applicable. The carrying amount of accrued interest receivable approximates its fair value.

Bank owned life insurance: The carrying amount of bank owned life insurance, net of accumulated earnings, reflects fair value.

Deposit liabilities: The fair values disclosed for demand and savings deposits are, by definition, equal to the amount payable on demand at the reporting date. The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated contractual maturities on such time deposits. The carrying amount of accrued interest payable approximates fair value.

Short-term borrowings and securities sold under agreements to repurchase: The carrying amounts of short-term borrowings approximate their fair values.

Long-term debt and junior subordinated debentures: The fair values of the Company’s long-term debt and junior subordinated debentures are estimated using discounted cash flow analysis based on the Bank’s current incremental borrowing rates for similar types of borrowings.

Reclassification

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

Recent Accounting Pronouncements

The following is a summary of recent authoritative pronouncements that could impact the accounting, reporting, and/or disclosure of financial information by the Company.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This standard eliminates inconsistencies found in various prior pronouncements but does not require any new fair value measurements. SFAS 157 is effective for the Company on January 1, 2008 and will not impact the Company’s accounting measurements but it is expected to result in additional disclosures.

18

Notes to Consolidated Financial Statements

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

Recent Accounting Pronouncements, continued

In September 2006, The FASB ratified the consensuses reached by the FASB’s Emerging Issues Task Force (“EITF”) relating to EITF 06-4, Accounting for the Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements (“EITF 06-4”). Entities purchase life insurance for various reasons including protection against loss of key employees and to fund postretirement benefits. The two most common types of life insurance arrangements are endorsement split dollar life and collateral assignment split dollar life. EITF 06-4 covers the former and EITF 06-10 (discussed below) covers the latter. EITF 06-4 states that entities with endorsement split-dollar life insurance arrangements that provide a benefit to an employee that extends to postretirement periods should recognize a liability for future benefits in accordance with SFAS No.106, Employers' Accounting for Postretirement Benefits Other Than Pensions, (if, in substance, a postretirement benefit plan exists)or Accounting Principles Board (“APB”) Opinion No. 12, “Omnibus Opinion - 1967” (if the arrangement is, in substance, an individual deferred compensation contract).Entities should recognize the effects of applying this Issue through either (a) a change in accounting principle through a cumulative-effect adjustment to retained earnings or to other components of equity or net assets in the statement of financial position as of the beginning of the year of adoption or (b) a change in accounting principle through retrospective application to all prior periods. EITF 06-4 is effective for the Company on January 1, 2008. The Company does not believe the adoption of EITF 06-4 will have a material impact on its financial position, results of operations or cash flows.

In March 2007, the FASB ratified the consensus reached on EITF 06-10, Accounting for Collateral Assignment Split-Dollar Life Insurance Arrangements (“EITF 06-10”). The postretirement aspect of this EITF is substantially similar to EITF 06-4 discussed above and requires that an employer recognize a liability for the postretirement benefit related to a collateral assignment split-dollar life insurance arrangement in accordance with either FASB Statement No. 106 or APB Opinion No. 12, as appropriate, if the employer has agreed to maintain a life insurance policy during the employee's retirement or provide the employee with a death benefit based on the substantive agreement with the employee. In addition, a consensus was reached that an employer should recognize and measure an asset based on the nature and substance of the collateral assignment split-dollar life insurance arrangement. EITF 06-10 is effective for the Company on January 1, 2008. The Company does not believe the adoption of EITF 06-10 will have a material impact on its financial position, results of operations or cash flows.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No. 115 (“SFAS 159”). This statement permits, but does not require, entities to measure many financial instruments at fair value. The objective is to provide entities with an opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. Entities electing this option will apply it when the entity first recognizes an eligible instrument and will report unrealized gains and losses on such instruments in current earnings. This statement 1) applies to all entities, 2) specifies certain election dates, 3) can be applied on an instrument-by-instrument basis with some exceptions, 4) is irrevocable and 5) applies only to entire instruments. One exception is demand deposit liabilities which are explicitly excluded as qualifying for fair value. With respect to SFAS 115, available-for-sale and held-to-maturity securities at the effective date are eligible for the fair value option

at that date. If the fair value option is elected for those securities at the effective date, cumulative unrealized gains and losses at that date shall be included in the cumulative-effect adjustment and thereafter, such securities will be accounted for as trading securities. SFAS 159 is effective for the Company on January 1, 2008. The Company is currently analyzing the fair value option that is permitted, but not required, under SFAS 159.

In November 2007, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin No. 109, Written Loan Commitments Recorded at Fair Value Through Earnings (“SAB 109”). SAB 109 expresses the current view of the SEC staff that the expected net future cash flows related to the associated servicing of the loan should be included in the measurement of all written loan commitments that are accounted for at fair value through earnings.  SEC registrants are expected to apply this guidance on a prospective basis to derivative loan commitments issued or modified in the first quarter of 2008 and thereafter. The Company is currently analyzing the impact of this guidance, which relates to the Company’s mortgage loans held for sale.

19

Notes to Consolidated Financial Statements

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

Recent Accounting Pronouncements, continued

In December 2007, the FASB issued SFAS No. 141(R), Business Combinations, (“SFAS 141(R)”) which replaces SFAS 141. SFAS 141(R) establishes principles and requirements for how an acquirer in a business combination recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest; recognizes and measures goodwill acquired in the business combination or a gain from a bargain purchase; and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. FAS 141(R) is effective for acquisitions by the Company taking place on or after January 1, 2009. Early adoption is prohibited. Accordingly, a calendar year-end company is required to record and disclose business combinations following existing accounting guidance until January 1, 2009. The Company will assess the impact of SFAS 141(R) if and when a future acquisition occurs.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51 (“SFAS 160”). SFAS 160 establishes new accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Before this statement, limited guidance existed for reporting noncontrolling interests (minority interest). As a result, diversity in practice exists. In some cases minority interest is reported as a liability and in others it is reported in the mezzanine section between liabilities and equity. Specifically, SFAS 160 requires the recognition of a noncontrolling interest (minority interest) as equity in the consolidated financials statements and separate from the parent’s equity. The amount of net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement. SFAS 160 clarifies that changes in a parent’s ownership interest in a subsidiary that do not result in deconsolidation are equity transactions if the parent retains its controlling financial interest. In addition, this statement requires that a parent recognize gain or loss in net income when a subsidiary is deconsolidated. Such gain or loss will be measured using the fair value of the noncontrolling equity investment on the deconsolidation date. SFAS 160 also includes expanded disclosure requirements regarding the interests of the parent and its noncontrolling interests. SFAS 160 is effective for the Company on January 1, 2009. Earlier adoption is prohibited. The Company is currently evaluating the impact, if any, the adoption of SFAS 160 will have on its consolidated financial statements.

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

Note 2. Business Combinations

On April 28, 2006, the Company acquired The Bank of Heath Springs, paying $8,000,000 in exchange for all the outstanding shares of common stock of The Bank of Heath Springs. In conjunction with the acquisition, The Bank of Heath Springs was merged with and into the Company’s subsidiary, Waccamaw Bank.

The acquisition was accounted for as a purchase transaction and accordingly the results of operations attributable to the acquired company is included in our consolidated financial statements only from the date of acquisition. The excess of purchase price over fair value of net tangible and identified intangible assets acquired will be evaluated annually for impairment and written down as those values become impaired. Identified intangible assets will be amortized over their expected useful life. The acquisition is summarized as follows:

	The Bank of Heath Springs
Purchase price	$	8,000,000
Loans, net		4,516,371
Investment securities		8,206,775
Cash		6,372,868
Identified intangible assets		300,000
Other assets		340,290
Deposits		(14,387,526	)
Other liabilities		(14,380	)
Net tangible and identified intangible
assets acquired (at fair market value)		5,334,398
Excess of purchase price over net tangible and
identified intangible assets acquired (at fair
market value)	$	2,665,602

20

Notes to Consolidated Financial Statements

Note 3. Restrictions on Cash

To comply with banking regulation, the Bank is required to maintain certain average cash reserve balances. The daily average cash reserve requirement was approximately $2,343,000 and $2,967,000 for the periods including December 31, 2007 and 2006, respectively.

Note 4. Investment Securities

Debt and equity securities have been classified in the balance sheet according to management’s intent. The amortized cost of securities (all available for sale) and their approximate fair values follow:

	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
2007
Government sponsored enterprises	$	15,448,159	$	172,693	$	-	$	15,620,852
Mortgage backed securities		40,691,655		110,691		187,341		40,615,005
Corporate securities		27,502,810		287,451		735,161		27,055,100
Municipal securities		16,690,931		17,081		696,647		16,011,365
	$	100,333,555	$	587,916	$	1,619,149	$	99,302,322

	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
2006
Government sponsored enterprises	$	8,629,498	$	19,578	$	1,892	$	8,647,184
Mortgage backed securities		13,488,543		15,615		123,380		13,380,778
Corporate securities		18,397,532		526,714		190,649		18,733,597
Municipal securities		9,779,656		25,018		37,070		9,767,604
	$	50,295,229	$	586,925	$	352,991	$	50,529,163

21

Notes to Consolidated Financial Statements

Note 4. Investment Securities, continued

Restricted equity securities are carried at cost and consist of investments in stock of the Federal Home Loan Bank of Atlanta (FHLB), The Bankers Bank and The Federal Reserve Bank of Richmond (Federal Reserve). All of those entities are correspondents of the Bank. The FHLB requires financial institutions to make equity investments in the FHLB in order to borrow from it. The Bank is required to hold that stock so long as it borrows from the FHLB. The Federal Reserve requires banks to purchase stock as a condition of membership in the Federal Reserve system. The Bank’s stock in The Bankers Bank is restricted only in the fact that the stock may only be repurchased by the respective company.

Investment securities with market values of $54,160,471 and $18,187,501 at December 31, 2007 and 2006, respectively were pledged as collateral on public deposits and for other banking purposes as required or permitted by law. Gross realized gains and losses for the years ended December 31, 2007, 2006 and 2005 are as follows:

	2007			2006			2005
Realized gains	$	269,709		$	-		$	-
Realized losses		(23,581	)		(890	)		(1,062	)
	$	246,128		$	(890	)	$	(1,062	)

The scheduled contractual maturities of securities (all available for sale) at December 31, 2007 are as follows:

	Amortized		Fair
	Cost		Value
Due in one year or less	$	739,337	$	808,405
Due in one through five years		6,204,427		5,880,699
Due in five through ten years		6,134,665		6,165,961
Due after ten years		87,255,126		86,447,257
	$	100,333,555	$	99,302,322

The following table details unrealized losses and related fair values in the Bank’s held to maturity and available for sale investment securities portfolios. This information is aggregated by the length of time that individual securities have been in a continuous unrealized loss position as of December 31, 2007.

	Less Than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
December 31, 2007	Value		Losses			Value		Losses			Value		Losses
Mortgage backed securities	$	24,752,710	$	(172,649	)	$	755,806	$	(14,692	)	$	25,508,516	$	(187,341	)
Corporate securities		11,653,112		(358,489	)		4,027,860		(376,672	)		15,680,972		(735,161	)
Municipal securities		10,753,110		(669,521	)		2,462,781		(27,126	)		13,215,891		(696,647	)
Total temporarily impaired securities	$	47,158,932	$	(1,200,659	)	$	7,246,447	$	(418,490	)	$	54,405,379	$	(1,619,149	)

Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow any anticipated recovery in fair value.

22

Notes to Consolidated Financial Statements

Note 5. Loans Receivable

The major components of loans in the balance sheets at December 31 are as follows:

	2007			2006
	In thousands
Commercial	$	43,617		$	48,858
Real estate:
Construction and land development		121,760			109,036
Residential, 1-4 families		75,671			64,475
Residential, 5 or more families		3,670			3,650
Farmland		3,806			2,412
Nonfarm, nonresidential		93,222			73,529
Agricultural		671			675
Consumer		13,950			13,172
Other		4,610			1,783
		360,977			317,590
Deferred loan fees, net of costs		(453	)		(451	)
Allowance for loan losses		(5,386	)		(4,886	)
	$	355,138		$	312,253

Approximately $18,000,000 in 1-4 family residential loans, $33,000,000 in commercial real estate loans and $17,000,000 in home equity line of credit loans were pledged as collateral securing Federal Home Loan Bank advances included in long-term debt at December 31, 2007.

Note 6. Allowance for Loan Losses

Changes in the allowance for loan losses are as follows:

	2007			2006			2005
Balance, beginning	$	4,885,992		$	3,939,002		$	2,791,008
Provision charged to expense		385,864			1,450,000			1,370,000
Allowance acquired in purchase transaction		-			45,942			-
Recoveries of amounts charged off		401,717			36,247			47,685
Amounts charged off		(287,791	)		(585,199	)		(269,691	)
Balance, ending	$	5,385,782		$	4,885,992		$	3,939,002

	2007		2006
Impaired loans without a valuation allowance	$	2,504,192	$	1,135,984
Impaired loans with a valuation allowance		-		-
Total impaired loans	$	2,504,192	$	1,135,984
Valuation allowance related to impaired loans	$	-	$	-
Total nonaccrual loans	$	1,534,208	$	1,180,641
Total loans past due ninety days or more and still accruing interest	$	2,608,432	$	340,106

23

Notes to Consolidated Financial Statements

Note 6. Allowance for Loan Losses, continued

The average annual recorded investment in impaired loans and interest income recognized on impaired loans for the last three years (all approximate) is summarized below:

	2007		2006		2005
Average investment in impaired loans	$	927,305	$	1,016,932	$	1,172,568
Interest income recognized on impaired loans	$	206,057	$	236,913	$	134,546
Interest income recognized on a cash basis on impaired loans	$	93,351	$	40,384	$	98,622

No additional funds are committed to be advanced in connection with impaired loans.

Note 7. Property and Equipment

Components of Property and Equipment

Property and equipment and total accumulated depreciation consisted of the following at December 31:

	2007		2006
Land	$	2,384,393	$	1,308,698
Buildings		7,021,830		3,735,432
Construction in progress		3,205,990		22,660
Leasehold improvements		908,454		766,810
Automobiles		55,818		24,018
Furniture and equipment		3,227,824		2,564,232
		16,804,309		8,421,850
Less accumulated depreciation		2,266,570		1,750,077
	$	14,537,739	$	6,671,773

Note 7. Property and Equipment, continued

Depreciation expense reported in net income was approximately $544,000, $383,000, and $295,000 for the years ended December 31, 2007, 2006 and 2005, respectively.

Leases

The Bank leases several banking facilities and its operations center under agreements accounted for as operating leases. Rent expense was approximately $378,000, $260,000, and $178,000 in 2007, 2006, and 2005, respectively. Future minimum lease payments under non-cancelable commitments are as follows.

2008	$	323,268
2009		304,246
2010		185,829
2011		81,612
2012		60,550
Thereafter		183,750
	$	1,139,255

24

Notes to Consolidated Financial Statements

Note 8. Intangible Assets

The book value of purchased intangible assets at December 31, 2007 and 2006 was $673,374 and $930,555, respectively. Details are as follows:

	As of December 31, 2007				As of December 31, 2006
	Gross Carrying		Accumulated		Gross Carrying		Accumulated
	Amount		Amortization		Amount		Amortization
Amortized intangible assets							��
Deposit premium	$	2,439,919	$	1,813,210	$	2,439,919	$	1,576,030
Other		200,000		153,335		200,000		133,334
Total	$	2,639,919	$	1,966,545	$	2,639,919	$	1,709,364
Unamortized intangible assets
Goodwill from The Bank of
Heath Springs merger	$	2,727,152	$	n/a	$	2,665,602	$	n/a

Amortization expense is calculated on a straight-line basis over a period of ten years and was approximately $257,000, $247,000, and $227,000 in 2007, 2006, and 2005, respectively. Management expects amortization expense to be approximately $257,000 in each of the next three years.

Note 9. Deposits

The aggregate amount of time deposits in denominations of $100,000 or more at December 31, 2007 and 2006 was approximately $142,532,000 and $101,499,000, respectively. At December 31, 2007, the scheduled maturities of time deposits (in thousands) are as follows:

Three months or less	$	63,399
Four months to one year		165,871
Two to three years		16,314
Over three years		3,624
	$	249,208

Note 10. Borrowed Funds

Short-term borrowings

Securities sold under agreements to repurchase and federal funds purchased generally mature within one day to 24 months from the transaction date. Also included in short-term borrowings are three variable rate FHLB advances of $5,000,000, $2,000,000 and $6,000,000 at December 31, 2007. There were no advances at December 31, 2006. Additional information is summarized below:

	2007			2006
Outstanding balance at December 31	$	57,651,300		$	5,410,000
Year-end weighted average rate		4.24	%		4.59	%
Daily average outstanding during the period	$	13,351,081		$	5,142,348
Average rate for the year		4.60	%		4.39	%
Maximum outstanding at any month-end during the period	$	57,651,300		$	6,644,000

25

Notes to Consolidated Financial Statements

Note 10. Borrowed Funds, continued

Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. The Company may be required to provide additional collateral based on the fair value of the underlying securities.

Unused lines of credit

The Bank has established credit facilities to provide additional liquidity if and as needed. These consist of unsecured lines of credit with correspondent banks for $20,500,000 and a secured line of credit with a correspondent bank for $51,000,000. In addition, the Bank has the ability to borrow up to ten percent of total bank assets from the Federal Home Loan Bank of Atlanta, subject to the pledging of specific bank assets as collateral. There was $15,429,300 and $0 outstanding at December 31, 2007 and December 31, 2006, respectively, under these credit facilities.

Long-term debt

At December 31, 2007 and 2006, $25,500,000 and $23,500,000, respectively was outstanding under Federal Home Loan Bank advances. Approximately $18,000,000 in 1-4 family residential loans, $33,000,000 in commercial real estate loans and $17,000,000 in home equity line of credit loans were pledged as collateral for the FHLB advances at December 31, 2007.

Maturity Date	Advance		Rate
02/10/10		2,500,000		Fixed at 5.85	Convertible quarterly
07/12/12		9,000,000		1 Month LIBOR - .50%
12/02/13		5,000,000		3 Month LIBOR - .50%
09/29/15		4,000,000		Fixed at 4.06%	Convertible 9/29/09
04/22/19		5,000,000		3 Month LIBOR - .50%	Convertible 4/22/09
	$	25,500,000

Note 11. Fair Value of Financial Instruments

The estimated fair values of the Bank's financial instruments are as follows (dollars in thousands):

	December 31, 2007				December 31, 2006
	Carrying		Fair		Carrying		Fair
	Amount		Value		Amount		Value
Financial Assets
Cash and due from banks	$	11,809	$	11,809	$	9,183	$	9,183
Interest-bearing deposits with banks		912		912		790		790
Federal funds sold		-		-		2,598		2,598
Investment securities		99,302		99,302		50,529		50,529
Restricted equity securities		3,342		3,342		2,457		2,457
Loans, net of allowance for loan losses		355,138		355,661		312,253		316,540
Financial Liabilities
Deposits		378,179		378,783		327,352		327,724
Securities sold under agreements to
repurchase and federal funds purchased		44,651		44,651		5,410		5,410
Short-term borrowings		13,000		13,000		-		-
Long-term debt		25,500		24,698		23,500		23,509
Junior subordinated debentures		8,248		8,000		8,248		8,000

26

Notes to Consolidated Financial Statements

Note 12. Earnings per Share

The following table details the computation of basic and diluted earnings per share:

	2007		2006		2005
Net income (income available to common shareholders)	$	3,908,948	$	3,652,016	$	3,035,373
Weighted average common shares outstanding		5,365,617		5,127,107		4,997,725
Effect of dilutive securities, options		33,719		127,246		244,890
Effect of dilutive securities, preferred stock		64,297		65,111		-
Weighted average common shares outstanding, diluted		5,463,633		5,319,464		5,242,615
Basic earnings per common share	$	.73	$	.71	$	.61
Diluted earnings per common share	$	.72	$	.69	$	.58

Each share of preferred stock may be converted at the election its holder to one share of common stock.

The Company declared an 11-for-10 stock split in the form of a 10% stock dividend payable on September 18, 2007 to the shareholders of record on September 2, 007. To effect the split, the Company’s issued and outstanding stock was increased by 491,583 shares. The dilutive effects of preferred stock have also been adjusted to reflect an 11-for-10 stock split.

At December 31, 2007 and 2006, 296,899 warrants were outstanding with a $21.82 per share exercise price. These warrants may be used to purchase one share of the Company’s common stock at any time until September 30, 2009. Exercise of these warrants and 115,755 options are not assumed in computing 2007 diluted earnings per share as their exercise price was below market value at December 31, 2007.

Note 13. Guaranteed Preferred Beneficial Interests in the Company’s Junior Subordinated Debentures

Waccamaw Statutory Trust I, a statutory business trust (the Trust), was created by the Company on December 17, 2003, at which time the Trust issued $8,000,000 in aggregate liquidation amount of preferred capital trust securities which mature December 17, 2033. Distributions are payable on the securities at a floating rate indexed to the 3-month London Interbank Offered Rate (“LIBOR”), and the securities may be prepaid at par by the Trust at any time after December 17, 2008. The principal assets of the Trust are $8.2 million of the Company’s junior subordinated debentures which mature on December 17, 2033, and bear interest at a floating rate indexed to the 3-month LIBOR, and which are callable by the Company after December 17, 2008. All $248 thousand in aggregate liquidation amount of the Trust’s common securities are held by the Company.

The Trust’s preferred securities may be included in the Company’s Tier I capital for regulatory capital adequacy purposes to the extent that they do not exceed 33.3% of the Company’s total Tier I capital excluding these securities. Amounts in excess of this ratio will not be considered Tier I capital but may be included in the calculation of the Company’s total risk-based capital ratio. The Company’s obligations with respect to the issuance of the Trust’s preferred securities and common securities constitute a full and unconditional guarantee by the Company of the Trust’s obligations with respect to the preferred securities and common securities. Subject to certain exceptions and limitations, the Company may elect from time to time to defer interest payments on its junior subordinated debentures, which would result in a deferral of distribution payments on the Trust’s preferred trust securities and common securities.

In 2004, the Company adopted FIN 46(R), Consolidation of Variable Interest Entities (as amended), which resulted in the assets and liabilities, as well as the related income and expenses of the Trust being excluded from our consolidated financial statements. However, the subordinated debentures issued by the Company and purchased by the Trust remain on our balance sheet. In addition, the related interest expense continues to be included on our income statement.

27

Notes to Consolidated Financial Statements

Note 14.Benefit Plans

Defined Contribution Plan

The Bank maintains a profit sharing plan pursuant to Section 401(k) of the Internal Revenue Code. The plan covers substantially all employees at least 21 years of age who have completed at least one month of service. Participants may contribute a percentage of compensation, subject to a maximum allowed under the Code. The bank contributes up to 3% of an employee’s compensation who have completed at least twelve months of service which vests over a five-year period. The Bank’s aggregate contribution was $48,000, $48,750 and $42,603 for the years ended December 31, 2007, 2006 and 2005, respectively.

Supplemental Employment Retirement Plan

Supplemental benefits have been approved by the Board of Directors for the directors and certain executive officers of Waccamaw Bank. Certain funding is provided informally and indirectly by life insurance policies. The cash surrender value of the life insurance policies are recorded as a separate line item in the accompanying balances sheets at $11,777,361 and $5,419,130 at December 31, 2007 and 2006, respectively. Income earned on these policies is reflected as a separate line item in the Consolidated Statements of Income. The Company recorded expenses and a liability related to these benefits of $71,264 in 2007 and no expenses or liability in 2006.

Stock Option Plans

The Company’s Board of Directors has adopted both the 1998 Incentive Stock Option Plan (Incentive Plan) and the 1998 Nonstatutory Stock Option Plan (Nonstatutory Plan). Under each plan up to 504,083 shares may be issued for a total of 1,008,166 shares (adjusted for stock dividends). Options granted under both plans expire no more than 10 years from date of grant. Option exercise prices under both plans must be set by the Board of Directors at the date of grant and cannot be less than 100% of fair market value of the related stock at the date of the grant. Under both plans, vesting is determined by the specific option agreements. It is the Company’s policy to issue new shares to satisfy option exercises.

As described in Note 1, effective January 1, 2006, the Company adopted SFAS No. 123(R) using the modified prospective application. Under this application, the Company is required to record compensation expense for all rewards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. Compensation cost charged to income was approximately $99,000 and $88,000 for the years ended December 31, 2007 and 2006, respectively.

Prior to the adoption of SFAS No. 123(R), the Company used the intrinsic value method as prescribed by APB No. 25 and thus recognized no compensation expense for options granted with exercise prices equal to the fair market value of the Company’s common stock on the date of grant.

The weighted average fair value of each stock option grant is estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average estimated fair values of stock options grants and the assumptions that were used in calculating such fair values were based on estimates at the date of grant as follows:

	2007			2006			2005
Weighted average fair value of options granted
during the year	$	5.02		$	6.88		$	5.40
Assumptions:
Average risk free interest rate		4.76	%		6.25	%		5.25	%
Average expected volatility		25.00	%		9.10	%		17.00	%
Expected dividend rate		-	%		-	%		-	%
Expected life in years		10			10			10

28

Notes to Consolidated Financial Statements

Note 14. Employee Benefit Plans, continued

Stock Option Plans, continued

Cash received from option exercises under the plans for the year ended December 31, 2007 and 2006 was $97,979 and $255,654, respectively. The total intrinsic value of options exercised during the years ended December 31, 2007 and 2006 was $1,105,751 and $773,746, respectively. Also during 2007, 19,956 shares of common stock with an average market value of approximately $13.58 per share were exchanged to exercise 89,395 options with an average exercise price of approximately $3.03 per option. No such exchange was exercised during 2006.

Activity under the plans during the years ended December 31, 2007 and 2006 (adjusted for stock splits) is summarized below:

	Incentive Plan						Non statutory Plan
	Available						Available
	for Grant			Granted			for Grant		Granted
Balance December 31, 2005		55,937			350,046			81,897		222,033
Forfeited		38,390			(38,390	)		-		-
Granted		(8,250	)		8,250			-		-
Exercised		-			(43,063	)		-		(25,547	)
Balance December 31, 2006		86,077			276,843			81,897		196,486
Forfeited		8,700			(8,700	)		-		-
Granted		(22,150	)		22,150			-		-
Exercised		-			(106,151	)		-		(12,972	)
Balance December 31, 2007		72,627			184,142			81,897		183,514

A summary of option activity under the plans as of and changes during the year ended December 31, 2007 is presented below:

						Weighted		Average
				Average		Remaining		Aggregate
	Options			Exercise		Contractual		Intrinsic
	Outstanding			Price		Term		Value
Outstanding at December 31, 2006		473,329		$	10.29
Granted		22,150		$	13.57
Forfeited		(8,700	)	$	14.58
Exercised		(119,123	)	$	3.10
Outstanding at December 31, 2007		367,656		$	12.72		6.0 years	$	663,272
Exercisable at December 31, 2007		317,510		$	12.39		5.6 years	$	660,154

The total fair value of options vesting during 2007 and 2006 was $98,729 and $88,063, respectively. Total unrecognized compensation cost related to outstanding non-vested stock options will be recognized over the following periods:

2008	$	102,860
2009		85,484
2010		43,679
2011		25,825
2012		4,652
Total	$	262,500

29

Notes to Consolidated Financial Statements

Note 14. Employee Benefit Plans, continued

Stock Option Plans, continued

The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions of SFAS No. 123 for the year ended December 31, 2005:

	2005
Net income	$	3,035,373
Deduct: Total stock-based employee compensation
expense determined under fair value based
method for all awards, net of tax effects		(794,072	)
Proforma net income	$	2,241,301
Earnings per share
Basic	$	.61
Basic - proforma	$	.45
Diluted	$	.58
Diluted - proforma	$	.43

Note 15. Income Taxes

Current and Deferred Income Tax Components

The components of income tax expense are as follows:

	2007			2006			2005
Current	$	2,264,685		$	2,517,474 $			2,045,847
Deferred		(215,944	)		(307,088	)		(456,679	)
Income tax expense (benefit)	$	2,048,741		$	2,210,386 $			1,589,168

Rate Reconciliation

A reconciliation of income tax expense computed at the statutory federal income tax rate included in the statement of income follows:

	2007			2006			2005
Tax at statutory federal rate	$	2,025,614		$	1,993,217 $			1,572,344
Tax exempt interest		(205,562	)		(123,480	)		(38,040	)
Tax exempt income from bank owned life insurance		(132,654	)		(81,599	)		(65,836	)
State income tax, net of federal benefit		228,551			276,276			218,173
Other		132,792			145,972			(97,473	)
Income tax expense (benefit)	$	2,048,741		$	2,210,386 $			1,589,168

30

Notes to Consolidated Financial Statements

Note 15. Income Taxes, continued

Deferred Income Tax Analysis

The components of net deferred federal and state tax assets (included in other assets on the balance sheet) are summarized as follows:

	2007			2006
Deferred tax assets
Allowance for loan losses	$	1,914,477		$	1,690,064
Employment benefit liability		32,468			-
Deposit premium amortization		285,977			245,216
Deferred loan fees		174,717			173,763
Unrealized loss on securities available for sale		397,582			-
Deferred tax assets		2,805,221			2,109,043
Deferred tax liabilities
Depreciation		(382,880	)		(312,661	)
Accretion of bond discount		(64,645	)		(52,212	)
Unrealized gain on securities available for sale		-			(79,538	)
Deferred tax liabilities		(447,525	)		(444,411	)
Net deferred tax asset	$	2,357,696		$	1,664,632

The Company does not maintain a valuation allowance. Based on historical and current earnings, management believes it is more likely than not the Company will realize the benefits of its deferred tax asset.

The Company has analyzed the tax positions taken or expected to be taken in its tax returns and concluded it has no liability related to uncertain tax positions in accordance with FIN 48.

Note 16. Commitments and Contingencies

Litigation

In the normal course of business the Bank is involved in various legal proceedings. After consultation with legal counsel, management believes that any liability resulting from such proceedings will not be material to the financial statements.

Financial Instruments with Off-Balance-Sheet Risk

To meet the financing needs of its customers, the Bank is party to financial instruments with off-balance-sheet risk in the normal course of business. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the balance sheet.

The Bank's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as for on-balance-sheet instruments. A summary of the Bank's commitments are as follows:

	2007		2006
Commitments to extend credit	$	48,600,000	$	68,610,000
Stand-by letters of credit		4,509,000		1,825,000
	$	53,109,000	$	70,435,000

31

Notes to Consolidated Financial Statements

Note 16. Commitments and Contingencies, continued

Financial Instruments with Off-Balance-Sheet Risk, continued

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies, but may include accounts receivable, inventory, property and equipment, residential real estate and income-producing commercial properties.

Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances which the Bank deems necessary.

Concentrations of Credit Risk

Substantially all of the Bank's loans and commitments to extend credit have been granted to customers in the Bank's market area and such customers are generally depositors of the Bank. The concentrations of credit by type of loan are set forth in Note 5. The distribution of commitments to extend credit approximates the distribution of loans outstanding. The Bank's primary focus is toward commercial, consumer and small business transactions, and accordingly, it does not have a significant number of credits to any single borrower or group of related borrowers in excess of $4,000,000.

The Bank from time to time has cash and cash equivalents on deposit with financial institutions which exceed federally-insured limits.

Note 17. Regulatory Restrictions

Dividends

The Company’s dividend payments, if any, will be made from dividends received from the Bank. The Bank, as a North Carolina banking corporation, may pay dividends only out of undivided profits (retained earnings) as determined pursuant to North Carolina General Statutes Section 53-87. However, regulatory authorities may limit payment of dividends by any bank when it is determined that such a limitation is in the public interest and is necessary to ensure financial soundness of the Bank.

Capital Requirements

The Company (on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by federal banking agencies. 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 Company’s and the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets, as all those terms are defined in the regulations. Management believes, as of December 31, 2007 and 2006, that the Company and the Bank met all capital adequacy requirements to which they are subject.

32

Notes to Consolidated Financial Statements

Note 17. Regulatory Restrictions, continued

Capital Requirements, continued

As of December 31, 2007 and 2006, the most recent notification from the Federal Deposit Insurance Corporation categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, an institution must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the following table. There are no conditions or events since the notification that management believes have changed the Bank’s category.

The Company’s and Bank’s actual capital amounts and ratios are also presented in the table (dollars in thousands).

	Actual					Minimum Capital Required					Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
December 31, 2007
Total capital to risk-
weighted assets
Consolidated	$	45,591		10.88	%	$	33,509		8.00	%	$	n/a		n/a
Bank	$	44,670		10.67	%	$	33,585		8.00	%	$	41,981		10.00	%
Tier 1 capital to risk-
weighted assets
Consolidated	$	40,350		9.63	%	$	16,755		4.00	%	$	n/a		n/a
Bank	$	39,429		9.42	%	$	16,792		4.00	%	$	25,189		6.00	%
Tier 1 capital to average
assets
Consolidated	$	40,350		8.70	%	$	18,547		4.00	%	$	n/a		n/a
Bank	$	39,429		8.53	%	$	18,497		4.00	%	$	23,121		5.00	%

	Actual					Minimum Capital Required					Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
December 31, 2006
Total capital to risk-
weighted assets
Consolidated	$	40,396		11.82	%	$	27,332		8.00	%	$	n/a		n/a
Bank	$	39,082		11.41	%	$	27,399		8.00	%	$	34,248		10.00	%
Tier 1 capital to risk-
weighted assets
Consolidated	$	36,108		10.57	%	$	13,666		4.00	%	$	n/a		n/a
Bank	$	34,796		10.16	%	$	13,699		4.00	%	$	20,549		6.00	%
Tier 1 capital to average
assets
Consolidated	$	36,108		9.61	%	$	15,022		4.00	%	$	n/a		n/a
Bank	$	34,796		9.30	%	$	14,974		4.00	%	$	18,717		5.00	%

33

Notes to Consolidated Financial Statements

Note 17. Regulatory Restrictions, continued

Intercompany transactions

Restrictions on loans by the Bank to the Company are imposed by Federal Reserve Act Sections 23A and 23B, and differ from legal lending limits on loans to external customers. Generally, a bank may lend up to 10% of its capital and surplus to its parent or other affiliate, if the loan is secured and so long as certain safety and soundness requirements and market terms requirements are met. If collateral is in the form of stocks, bonds, debentures or similar obligations, it must have a market value when the loan is made of at least 20% more than the amount of the loan, and if obligations of a state or political subdivision or agency thereof, it must have a market value of at least 10% more than the amount of the loan. If such loans are secured by obligations of the United States or agencies thereof, or by notes, drafts, bills of exchange or bankers' acceptances eligible for rediscount or purchase by a Federal Reserve Bank, requirements for collateral in excess of loan amount do not apply. Under this definition, the legal lending limit for the Bank on loans to the Company was approximately $3,500,000 at December 31, 2007. No 23A transactions existed at December 31, 2007 or 2006.

Note 18. Transactions with Related Parties

Loans

The Bank has entered into transactions with its directors, significant shareholders and their affiliates (related parties). Such transactions were made in the ordinary course of business on substantially the same terms and conditions, including interest rates and collateral, as those prevailing at the same time for comparable transactions with other customers, and did not, in the opinion of management, involve more than normal credit risk or present other unfavorable features. Aggregate loan transactions with related parties were as follows:

	2007			2006
Balance, beginning	$	750,807		$	983,643
Change in relationships		(351,277	)		(249,352	)
New loans and advances		2,368,863			423,127
Repayments		(133,688	)		(406,611	)
Balance, ending	$	2,634,705		$	750,807

34

Notes to Consolidated Financial Statements

Note 19. Parent Company Financial Information

Condensed financial information of Waccamaw Bankshares, Inc. is presented as follows:

Balance Sheets

December 31, 2007 and 2006

	2007			2006
Assets
Cash and due from banks	$	95,302		$	128,735
Investment in subsidiary bank at equity		42,102,173			38,391,412
Investment securities, available for sale		227,735			467,581
Other assets		897,068			1,069,448
Total assets	$	43,322,278		$	40,057,176
Liabilities
Junior subordinated debt	$	8,248,000		$	8,248,000
Other liabilities		51,137			106,546
Total liabilities		8,299,137			8,354,546
Stockholders' equity
Preferred stock		793,967			993,112
Common stock		23,785,199			17,338,231
Retained earnings		11,124,589			13,216,891
Accumulated other comprehensive income (loss)		(680,614	)		154,396
Total stockholders' equity		35,023,141			31,702,630
Total liabilities and stockholders' equity	$	43,322,278		$	40,057,176

35

Notes to Consolidated Financial Statements

Note 19. Parent Company Financial Information, continued

Statements of Operations

Years ended December 31, 2007 and 2006

	2007			2006
Income
Loans and fees on loans	$	14,037		$	17,698
Investment securities, taxable		40,208			38,665
Investment securities, non-taxable		5,000			5,000
Net realized gains on sale or maturity
of investment securities		131,606			-
Net realized gains on sale of interest
in mortgage banking subsidiary		-			44,094
Total income		190,851			105,457
Expenses
Salaries and employee benefits		98,729			88,063
Professional fees		-			490
Franchise tax		46,096			33,478
Interest expense		691,953			663,746
Amortization expense		24,638			25,531
Other expenses		2,243			18,535
Total expenses		863,659			829,843
Income (loss) before tax expense and equity
in undistributed income of subsidiary		(672,808	)		(724,386	)
Federal income tax benefit		154,643			129,093
State income tax expense		(10,127	)		-
Total income tax benefit		144,516			129,093
Loss before equity in undistributed income of
subsidiary		(528,292	)		(595,293	)
Equity in undistributed income of subsidiary		4,437,240			4,247,309
Net income	$	3,908,948		$	3,652,016

36

Notes to Consolidated Financial Statements

Note 19. Parent Company Financial Information, continued

Statements of Cash Flows

Years ended December 31, 2007 and 2006

	2007			2006
Cash flows from operating activities
Net income	$	3,908,948		$	3,652,016
Adjustments:
Amortization		24,000			24,000
Stock-based compensation		98,729			88,063
Benefit of non-qualified stock option exercise		60,029			82,038
Accretion of discount on securities, net of
amortization of premiums		638			1,531
Gain on sale of investment securities		(131,606	)		-
Deferred taxes		-			427
Increase in equity in undistributed income of subsidiary		(4,437,240	)		(4,247,309	)
Decrease (increase) in other assets		148,381			(362,008	)
Increase in other liabilities		501			4,571
Net cash used by operating activities		(327,620	)		(756,671	)
Cash flows from investing activities
Investment in subsidiary		-			(4,529,514	)
Sales of investment securities		206,372			-
Net decrease in loans		-			382,696
Net cash provided (used) by investing activities		206,372			(4,146,818	)
Cash flows from financing activities
Issuance of stock and redemption of fractional shares		87,815			4,904,281
Net cash (used) provided by financing activities		87,815			4,904,281
(Decrease) increase in cash and due from banks		(33,433	)		792
Cash and cash equivalents, beginning		128,735			127,943
Cash and cash equivalents, ending	$	95,302		$	128,735

37

Notes to Consolidated Financial Statements

Note 20. Quarterly Data (in thousands)

	Years Ended December 31,
	2007												2006
	Fourth Quarter			Third Quarter			Second Quarter			First Quarter			Fourth Quarter			Third Quarter			Second Quarter			First Quarter
Interest income	$	8,166		$	8,122		$	7,907		$	7,442		$	7,031		$	6,718		$	6,116		$	5,514
Interest expense		(4,499	)		(4,205	)		(3,919	)		(3,674	)		(3,246	)		(2,943	)		(2,625	)		(2,412	)
Net interest income		3,667			3,917			3,988			3,768			3,785			3,775			3,491			3,102
Provision for loan losses		-			(8	)		(2	)		(375	)		(360	)		(470	)		(515	)		(105	)
Net interest income, after
provision for loan losses		3,667			3,909			3,986			3,393			3,425			3,305			2,976			2,997
Non interest income		882			833			721			1,007			654			677			602			648
Non interest expenses		(3,484	)		(3,062	)		(3,083	)		(2,811	)		(2,539	)		(2,550	)		(2,210	)		(2,123	)
Income before income taxes		1,065			1,680			1,624			1,589			1,540			1,432			1,368			1,522
Income tax expense		(352	)		(559	)		(543	)		(595	)		(549	)		(504	)		(480	)		(677	)
Net income	$	713		$	1,121		$	1,081		$	994		$	991		$	928		$	888		$	845
Earnings per common share:
Basic earnings per share	$	.13		$	.21		$	.20		$	.19		$	.19		$	.19		$	.18		$	.17
Diluted earnings per share	$	.13		$	.20		$	.20		$	.18		$	.18		$	.19		$	.18		$	.17

38

Report of Independent Registered Public Accounting Firm

Board of Directors and Stockholders

Waccamaw Bankshares, Inc.

Whiteville, North Carolina

We have audited the consolidated balance sheets of Waccamaw Bankshares, Inc. and subsidiary as of December 31, 2007 and 2006 and the related consolidated statements of income, changes in stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2007. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Waccamaw Bankshares, Inc. and subsidiary at December 31, 2007 and 2006, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2007, in conformity with accounting principles generally accepted in the United States of America.

We were not engaged to examine management’s assertion about the effectiveness of Waccamaw Bankshares, Inc.’s internal control over financial reporting as of December 31, 2007 included herein and, accordingly, we do not express an opinion thereon.

Galax, Virginia

March 27, 2008

Management’s Discussion and Analysis

MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following presents management’s discussion and analysis of the financial condition and results of operations of the Company as of December 31, 2007 and 2006 and the years then ended. This discussion should be read in conjunction with the Company’s Financial Statements and the Notes thereto.

There are no current recommendations by regulatory authorities which, if implemented, would have a material effect on the Company’s liquidity, capital resources or results of operations. There are no agreements between the Bank and either the North Carolina Banking Commission or the Federal Reserve Bank, nor has either regulatory agency made any recommendations concerning the operations of the Bank that could have a material effect on its liquidity, capital resources or results of operations.

Overview

Waccamaw Bank (the Bank) began operations on September 2, 1997. The Bank operates by attracting deposits from the general public and using such deposit funds to make commercial, consumer, and residential construction and permanent mortgage real estate loans. Revenues are derived principally from interest on loans and investments. Changes in the volume and mix of these assets and liabilities, as well as changes in the yields earned and rates paid, determine changes in net interest income. Waccamaw Bankshares, Inc. (the Company) was formed during 2001 and acquired all the outstanding shares of the Bank on June 30, 2001.

The Company’s total assets were $508.4 million at December 31, 2007 as compared to $399.6 million at December 31, 2006. Total deposits at December 31, 2007 increased 15.5% to $378.2 million. Total deposits were $327.4 million at December 31, 2006. The Bank used these resources primarily to fund new loans and purchase investment securities. The Bank’s net loans increased to $355.1 million at the end of 2007, an increase of $42.8 million over the 2006 amount of $312.3 million. Investment securities were $99.3 million and $50.5 million at December 31, 2007 and 2006, respectively.

In the second quarter of 2007, the Company completed construction of a branch in Ocean Isle, NC in the second quarter of 2007. The Company acquired three former Coastal Financial Corporation bank offices and one former BB&T office from BB&T Corporation. The offices are located in Oak Island, NC, Shallotte, NC, Myrtle Beach, SC and Conway, SC and opened in the fourth quarter of 2007.

Critical Accounting Policies

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The notes to the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007 contain a summary of its significant accounting policies. Management believes the Company’s policies with respect to the methodology for the determination of the allowance for loan losses and asset impairment judgments, such as the recoverability of intangible assets, involve a higher degree of complexity and require management to make difficult and subjective judgments that often require assumptions or estimates about highly uncertain matters. Accordingly, the Company considers the policies related to those areas to be critical.

The allowance for loan losses is an estimate of the losses that may be sustained in the Company’s loan portfolio. The allowance is based on two basic principles of accounting: (i) Statement of Financial Accounting Standards (“SFAS”) No. 5, Accounting for Contingencies, which requires that losses be accrued when they are probable of

occurring and estimable, and (ii) SFAS No. 114, Accounting by Creditors for Impairment of a Loan, which requires that losses be accrued based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market, and the loan balance.

21

Management’s Discussion and Analysis

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

Accounting for intangible assets is as prescribed by SFAS No. 142, Goodwill and Other Intangible Assets. The Company accounts for recognized intangible assets based on their estimated useful lives. Intangible assets with finite useful lives are amortized while intangible assets with an indefinite useful life are not amortized. Currently, the Company’s recognized intangible assets consist primarily of purchased core deposit intangible assets, having estimated useful lives of 10 years, and are being amortized. The useful life is the period over which the assets are expected to contribute directly or indirectly to future cash flows. Estimated useful lives of intangible assets are based on an analysis of pertinent factors, including (as applicable):

·   the expected use of the asset;

·   the expected useful life of another asset or group of assets to which the useful life of the intangible asset may relate;

·   any legal, regulatory, or contractual provisions that may limit the useful life;

·   any legal, regulatory, or contractual provisions that enable renewal and extension of the asset’s legal or contractual life without substantial cost;

·   the effects of obsolescence, demand, competition, and other economic factors; and

·   the level of maintenance expenditures required to obtain the expected future cash flows from the asset.

Straight-line amortization is used to expense recognized amortizable intangible assets since a method that more closely reflects the pattern in which the economic benefits of the intangible assets are consumed cannot readily be determined. Intangible assets are not written off in the period of acquisition unless they become impaired during that period.

The Company evaluates the remaining useful life of each intangible asset that is being amortized each reporting period to determine whether events and circumstances warrant a revision to the remaining period of amortization. If the estimate of the intangible asset’s remaining useful life is changed, the remaining carrying amount of the intangible asset shall be amortized prospectively over that revised remaining useful life.

If an intangible asset that is being amortized is subsequently determined to have an indefinite useful life, the asset will be tested for impairment. That intangible asset will no longer be amortized and will be accounted for in the same manner as intangible assets that are not subject to amortization.

Intangible assets that are not subject to amortization are reviewed for impairment in accordance with SFAS No. 121 and tested annually, or more frequently if events or changes in circumstances indicate that the asset might be impaired. The impairment test consists of a comparison of the fair value of the intangible asset with its carrying amount. If the carrying amount of the intangible asset exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. After an impairment loss is recognized, the adjusted carrying amount of the intangible asset becomes its new accounting basis. Subsequent reversal of a previously recognized impairment loss is not allowed. Based on the aforementioned testing, the Company has determined that its recorded intangible assets are not impaired.

22

Management’s Discussion and Analysis

Net Interest Income and Average Balances (thousands)

	Periods Ended December 31,
	2007							2006							2005
	Average Balance		Income/ Expenses		Interest Yield/ Cost			Average Balance		Income/ Expenses		Yield/ Cost			Average Balances		Interest Income/ Expenses		Yield/ Cost
Interest-earning assets:
Investment securities	$	65,454	$	3,805		5.81	%	$	46,561	$	2,526		5.43	%	$	31,257	$	1,435		4.59	%
Federal funds sold		5,481		290		5.29	%		4,630		226		4.88	%		13,595		436		3.21	%
Deposits with banks		943		49		5.19	%		897		42		4.68	%		889		27		3.03	%
Loans, net1,2		332,451		27,493		8.27	%		279,625		22,585		8.08	%		238,579		16,330		6.84	%
Total interest-earning
assets		404,329		31,637					331,713		25,379					284,320		18,228
Yield on average interest-
earning assets						7.82	%						7.65	%						6.41	%
Noninterest-earning assets:
Cash		8,204							6,687							5,704
Premises and equipment		8,475							5,395							3,397
Interest receivable and other		17,571							12,880							8,960
Total noninterest-earning
assets		34,250							24,962							18,061
Total assets	$	438,579						$	356,675						$	302,381
Interest-bearing liabilities:
Demand deposits	$	26,714		167		.62	%	$	27,404		206		.75	%	$	17,803		130		.73	%
Savings deposits		72,620		2,436		3.35	%		69,129		2,093		3.03	%		52,562		1,091		2.08	%
Time deposits		218,997		11,067		5.05	%		168,532		7,189		4.27	%		158,227		5,093		3.22	%
Repurchase agreements and
purchased funds		10,513		469		4.46	%		5,142		226		4.40	%		3,618		76		2.11	%
Other borrowings		37,422		2,157		5.77	%		25,389		1,512		5.96	%		24,282		1,146		4.72	%
Total interest-bearing
liabilities		366,266		16,296					295,596		11,226					256,492		7,536
Cost of average interest-
bearing liabilities						4.45	%						3.80	%						2.94	%
Noninterest-bearing liabilities:
Demand deposits		36,181							33,259							24,402
Interest payable and other		2,631							1,875							1,233
Total noninterest-
bearing liabilities		38,812							35,134							25,635
Total liabilities		405,078							330,730							282,127
Stockholders' equity		33,501							25,945							20,254
Total liabilities and
stockholders' equity	$	438,579						$	356,675						$	302,381
Net interest income			$	15,341						$	14,153						$	10,692
Net yield on interest-earning assets						3.79	%						4.27	%						3.76	%

 

¹Average loan balances include nonaccrual loans.

²Deferred loan fees are included in interest income.

23

Management’s Discussion and Analysis

Net Interest Income

Net interest income, the principal source of income for the Bank, is the amount of income generated by earning assets (primarily loans and investment securities) less the interest expense incurred on interest-bearing liabilities (primarily deposits used to fund earning assets). Changes in the volume and mix of interest-earning assets and interest-bearing liabilities, as well as their respective yields and rates, have a significant impact on the level of net interest income. The preceding table presents the average balances of total interest-earning assets and total interest-bearing liabilities for the periods indicated, showing the average distribution of assets, liabilities and stockholders’ equity, and the related income, expense, and corresponding weighted average yields and costs. The average balances used for the purposes of this table and other statistical disclosures were calculated by using the daily average balances.

Interest income during 2007 was $31.6 million, an increase of 24.7% over the 2006 total of $25.4 million. Interest income for 2005 was $18.2 million. These increases are due to the increase in the level of average earning assets in the past three years. Average earning assets were $404.3 million during 2007, an increase of 21.9% over 2006. Average earning assets increased 16.7% to $331.7 million during 2006 over the 2005 balance of $284.3 million. Yields on interest-earning assets during 2007, 2006, and 2005 were 7.8%, 7.7%, and 6.4%, respectively.

Interest rates charged on loans vary with the degree of risk, maturity and amount of the loan. Competitive pressures, money market rates, availability of funds, and government regulation also influence interest rates. On average, loans yielded 8.3%, 8.1% and 6.8% during 2007, 2006, and 2005, respectively. Yields on loans increased in 2006 primarily as a result of the rising rate environment.

Interest expense was $16.3 million during 2007, an increase of 45.2% over 2006. Interest expense in 2006 was $11.2 million, an increase of 49.0% over 2005. The increase in 2007 and 2006 is a result of the rising rate environment in 2006 and the increase in deposit balances in 2007. The average rate paid on interest-bearing liabilities during 2007, 2006, and 2005 was 4.5%, 3.8%, and 2.9%, respectively.

Net interest income was $15.3 million during 2007, an increase of 8.4% over 2006. During 2006 net interest income increased to $14.2 million. Net interest income was $10.7 million in 2005. These increases are due to increased levels of average earning assets and liabilities complemented by increased yields and rates. Net interest margin during 2007, 2006, and 2005 was 3.8%, 4.3%, and 3.8%, respectively.

24

Management’s Discussion and Analysis

The effects of changes in volumes and rates on net interest income for 2007, 2006 and 2005 are shown in the table below.  

	Rate/Volume Variance Analysis (thousands)
		2007 Compared to 2006									2006 Compared to 2005
		Interest									Interest
		Income/ Expense			Variance Attributable to						Income/ Expense		Variance Attributable to
		Variance			Rate			Volume			Variance		Rate		Volume
Interest-earning assets:
Loans	$	4,908		$	551		$	4,357		$	6,255 $		3,198	$	3,057
Investment securities		1,279			192			1,087			1,091		306		785
Deposits with banks		7			5			2			15		15		-
Federal funds sold		64			20			44			(210	)	794		(1,004	)
Total		6,258			768			5,490			7,151		4,313		2,838
Interest-bearing liabilities:
Demand deposits		(39	)		(34	)		(5	)		76		5		71
Savings deposits		343			234			109			1,002		715		287
Time deposits		3,878			1,479			2,399			2,096		1,820		276
Short-term borrowings		243			3			240			150		135		15
Long-term debt		645			(47	)		692			366		327		39
Total		5,070			1,635			3,435			3,690		3,002		688
Net interest income	$	1,188		$	(867	)	$	2,055		$	3,461 $		1,311	$	2,150

1. The variance in interest attributable to both volume and rate has been allocated to variance attributed to volume and variance attributed to rate in proportion to the absolute value of the change in each.

2. Balances of nonaccrual loans have been included for computational purposes.

Provision for Loan Losses

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

The provision for loan loss expense was $385,864, $1,450,000, and $1,370,000 during 2007, 2006, and 2005 respectively. The Bank's allowance for loan losses as a percentage of gross loans was 1.5%, 1.5% and 1.5% at the end of 2007, 2006, and 2005, respectively. Additional information regarding loan loss provisions is discussed in “Nonperforming and Problem Assets.”

25

Management’s Discussion and Analysis

Noninterest Income

Noninterest income consists of revenues generated from a variety of financial services and activities. The majority of noninterest income is a result of service charges on deposit accounts including charges for insufficient funds and fees charged for nondeposit services. Noninterest income also includes fees charged for various bank services such as safe deposit box rental fees and letter of credit fees. A portion of noninterest income can be from gain on the sale of investment securities. Although the Bank generally follows a buy and hold philosophy with respect to investment securities, occasionally the need to sell some investment securities is created by changes in market rate conditions or by efforts to restructure the portfolio to improve the Bank's liquidity or interest rate risk positions.

Noninterest income totaled $3.4 million, $2.6 million, and $2.3 million for the years ended December 31, 2007, 2006, and 2005, respectively. Noninterest income increased in 2007 primarily due to the increases in mortgage origination, financial services fee income, service charges and earnings on bank owned life insurance. Service charges on deposit accounts was 38.5% of total noninterest income for 2007. Service charges will most likely increase as the number of deposit accounts grow. The Bank's fee structure is reviewed annually to determine if adjustments to fees are warranted.

Mortgage origination fees increased 24.9% to $467,000 from 2007 to 2006 due to strong housing demand in the existing market areas. The Bank purchased life insurance for certain of its key employees in December, 2004, March 2007 and December 2007 providing $390,000, $240,000 and $193,000 of noninterest income for the years ended December 31, 2007, 2006 and 2005, respectively.

The sources of noninterest income for the past three years are summarized in the following table.

Sources of Noninterest Income (thousands)

	2007		2006			2005
Service charges on deposit accounts	$	1,325	$	1,100		$	1,095
ATM and check cashing fees		538		439			468
Gain on sale of investment securities		246		(1	)		(1	)
Gain on sale of investment in mortgage
banking investee		-		44			37
Mortgage origination		467		374			270
Insurance commission		14		17			44
Income from financial services		305		290			87
Earnings on bank owned life insurance		390		240			193
Other		158		78			76
Total noninterest income	$	3,443	$	2,581		$	2,269

Noninterest Expense

Noninterest expense for 2007, 2006, and 2005 was $12.4 million, $9.4 million and $7.0 million, respectively. The majority of the increase in noninterest expense for 2007 can be attributed to personnel and occupancy costs related to four new branches, and full year expenses for branches opened in 2006. The Bank opened branches in Ocean Isle, Oak Island and Shallotte, North Carolina and Myrtle Beach and Conway, South Carolina during 2007.

26

Management’s Discussion and Analysis

Total personnel expenses, the largest component of noninterest expense, were $6.9 million, $5.3 million and $3.7 million during 2007, 2006 and 2005, respectively. Personnel expenses increased 30.0% during 2007 and 41.3% during 2006. This was due to Bank growth and the addition of senior management. Management expects these costs to continue to increase as the Company grows.

Combined occupancy and furniture and equipment expense was $1.5 million, $1.1 million and $805,000, or 12.2%, 11.7% and 11.6% of noninterest expense during 2007, 2006 and 2005, respectively. Professional services expense, fees paid to attorneys, independent auditors, consultants and state examiners was $315,000, $293,000, and $192,000 in 2007, 2006 and 2005, respectively. The increase in 2007 and 2006 can be mostly attributed to legal fees related to collection of a loan.

Advertising and public relations expense increased to $593,000 in 2007 from $308,000 in 2006 as these expenses will continue to increase with Bank growth. Data processing and credit card processing fees were $1.0 million, $809,000 and $629,000 during 2007, 2006 and 2005, respectively. These fees relate directly to the number of accounts serviced and transactions processed.

The overhead ratio of noninterest expense to adjusted total revenues (net interest income plus noninterest income excluding securities transactions) was 66%, 56% and 54% in 2007, 2006, and 2005, respectively. Total noninterest expense will most likely continue to increase as the Company grows. However, as the Company becomes more mature, growth in net interest income should outpace growth in noninterest expense resulting in improved overhead ratios. The primary elements of noninterest expense for the past three years are summarized in the following table.

Sources of Noninterest Expense (thousands)

	2007		2006		2005
Salaries and wages	$	5,862	$	4,440	$	3,125
Employee benefits		994		834		608
Total personnel expense		6,856		5,274		3,733
Occupancy expense		1,074		776		555
Furniture and equipment		439		329		250
Printing and supplies		164		129		101
Professional services		315		293		192
Postage and office supplies		116		98		84
Telephone		139		106		73
Dues and subscriptions		63		39		30
Education and seminars		71		47		35
Franchise and local taxes		92		83		56
Advertising and public relations		593		308		187
Director fees		170		156		119
Data processing services		1,001		809		629
Amortization of deposit premium		282		273		253
Other operating expense		1,065		702		670
Total other expenses	$	12,440	$	9,422	$	6,967

27

Management’s Discussion and Analysis

Income Taxes

Income tax expense is based on amounts reported in the statements of income (after adjustments for non-taxable income and non-deductible expenses) and consists of taxes currently due plus deferred taxes on temporary differences in the recognition of income and expense for tax and financial statement purposes. The deferred tax assets and liabilities represent the future Federal and state income tax consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

Income tax expense was $2,049,000, $2,210,000 and $1,589,000 for 2007, 2006 and 2005, respectively. Net deferred income tax benefits of approximately $2,358,000 and $1,654,000 at December 31, 2007 and 2006, respectively, were included in other assets. At December 31, 2007, $398,000 of the total deferred tax asset is applicable to unrealized depreciation on investment securities available for sale.

The Bank’s deferred income tax benefits and liabilities are the result of temporary differences in provisions for loan losses, depreciation, amortization of deposit premiums, deferred income, and investment security discount accretion.

Earning Assets

Average earning assets were $404.3 million during 2007, an increase of 21.9% over 2006. Average earning assets were $331.7 million in 2006, an increase of 16.7% over the $284.3 million balance for 2005. Total average earning assets represented 92.2%, 93.0%, and 94.0% of total average assets during the years ended December 31, 2007, 2006 and 2005, respectively. A summary of average assets is shown in the following table.

Average Asset Mix (dollars in thousands)

	2007					2006					2005
	Average					Average					Average
	Balance		Percent			Balance		Percent			Balance		Percent
Earnings assets:
Loans, net	$	332,451		75.80	%	$	279,625		78.40	%	$	238,579		78.90	%
Investment securities		65,454		14.92	%		46,561		13.05	%		31,257		10.34	%
Federal funds sold		5,481		1.25	%		4,630		1.30	%		13,595		4.50	%
Deposits with banks		943		.21	%		897		.25	%		889		.29	%
Total earning assets		404,329		92.18	%		331,713		93.00	%		284,320		94.03	%
Nonearning assets:
Cash and due from banks		8,204		1.88	%		6,687		1.88	%		5,704		1.89	%
Premises and equipment		8,475		1.93	%		5,395		1.51	%		3,397		1.12	%
Other assets		17,571		4.01	%		12,880		3.61	%		8,960		2.96	%
Total nonearning assets		34,250		7.82	%		24,962		7.00	%		18,061		5.97	%
Total assets	$	438,579		100.00	%	$	356,675		100.00	%	$	302,381		100.00	%

Loans

The Bank makes both consumer and commercial loans to borrowers in all neighborhoods within its market area, including low- and moderate-income areas. The Bank’s market area is generally defined to be all of Columbus, Brunswick, Bladen and New Hanover counties of North Carolina and Lancaster and Horry counties of South Carolina, which management feels helps diversify market risk. The Bank emphasizes consumer based installment loans, commercial loans to small and medium sized businesses and real estate loans.

28

Management’s Discussion and Analysis

A significant portion of the loan portfolio is made up of loans secured by various types of real estate. Real estate loans represented 82.6%, 79.7%, and 84.2% of total loans at December 31, 2007, 2006, and 2005, respectively. Total loans secured by one-to-four family residential properties represented 21.0%, 20.3%, and 24.0% of total loans at the end of 2007, 2006 and 2005, respectively. Loans for commercial and business purposes were $43.6 million, $48.9 million and $29.0 million, or 12.1%, 15.4% and 11.1% of total loans outstanding at December 31, 2007, 2006 and 2005, respectively.

The amounts of gross loans outstanding by type at December 31, 2007 through December 31, 2003 are shown in the following table.

Loan Portfolio Summary (thousands)

	2007		2006		2005		2004		2003
Construction and development	$	121,760	$	109,036	$	83,575	$	37,529	$	23,389
Farmland		3,806		2,412		2,545		2,119		2,141
1-4 family residential		75,671		64,475		62,796		58,484		38,354
Multifamily residential		3,670		3,650		4,495		3,600		1,899
Nonfarm, nonresidential		93,222		73,529		67,199		65,156		22,130
Total real estate		298,129		253,102		220,610		166,888		87,913
Agricultural		671		675		388		1,976		3,238
Commercial and industrial		43,617		48,858		29,036		30,928		43,068
Consumer		13,950		13,172		10,544		8,564		8,775
Other		4,610		1,783		1,327		1,471		1,819
Total	$	360,977	$	317,590	$	261,905	$	209,827	$	144,813

The maturity/repricing distribution of loans as of December 31, 2007 are set forth in the following table.

Maturity Schedule of Loans (dollars in thousands)

	Commercial		Construction
	and		and				Total
	Industrial		Development		Others		Amount		Percent
Three months or less	$	27,496	$	76,757	$	109,206	$	213,459		59.13	%
Over three months to twelve months		2,985		8,332		10,534		21,851		6.05	%
Over one year to five years		10,906		30,446		47,319		88,671		24.57	%
Over five years		2,230		6,226		28,540		36,996		10.25	%
Total loans	$	43,617	$	121,761	$	195,599	$	360,977		100.00	%

Investment Securities

The Bank uses its investment portfolio to provide liquidity for unexpected deposit decreases, to fund loans, to meet the Bank's interest rate sensitivity goals, and to generate income.

Securities are classified as securities held to maturity when management has the intent and the Bank has the ability at the time of purchase to hold the securities to maturity. Securities held to maturity are carried at cost adjusted for amortization of premiums and accretion of discounts. Securities to be held for indefinite periods of time are classified as securities available for sale. Unrealized gains and losses on securities available for sale are recognized as direct increases or decreases in stockholders’ equity. Securities available for sale include securities that may be sold in response to changes in market interest rates, changes in the security’s prepayment risk, increases in loan demand, general liquidity needs and other similar factors. The entire securities portfolio is classified as available for sale.

Management of the investment portfolio is conservative with virtually all investments taking the form of purchases of Government sponsored enterprises, Corporate securities, municipal securities, and mortgage-backed securities. Management views the investment portfolio as a source of income, and purchases securities with that in mind. However, adjustments are necessary in the portfolio to provide an adequate source of liquidity which can be used to meet funding requirements for loan demand and deposit fluctuations and to control interest rate risk. Therefore, management may sell certain securities prior to their maturity.

29

Management’s Discussion and Analysis

The following table presents the investment portfolio by major types of investments and maturity ranges. Maturities may differ from scheduled maturities in mortgage-backed securities because the mortgages underlying the securities may be called or repaid prior to the scheduled maturity date. Maturities on all other securities are based on the contractual maturity.

Investment Securities (dollars in thousands)

	December 31, 2007
	Amortized Cost Due
	In One Yr.			After One Through			After Five Through			After Ten					Fair
	Or Less			Five Years			Ten Years			Years			Total		Value
Investment securities
Government sponsored
enterprises (FHLB
and FHLMC)	$	-		$	3,452		$	3,500		$	8,496		$	15,448	$	15,621
Municipal securities		-			256			680			15,755			16,691		16,011
Corporate securities		725			2,496			1,003			23,279			27,503		27,055
Mortgage-backed
Securities		14			-			952			39,726			40,692		40,615
Total	$	739		$	6,204		$	6,135		$	87,256		$	100,334	$	99,302
Weighted average yields
Government sponsored
enterprises (FHLB
and FHLMC)		-	%		5.18	%		5.89	%		6.16	%				5.88	%
Municipal securities		-	%		2.71	%		4.00	%		4.30	%				4.26	%
Corporate securities		-	%		6.16	%		6.74	%		7.52	%				7.34	%
Mortgage-backed
Securities		5.16	%		-	%		3.79	%		5.60	%				5.56	%
Consolidated		5.16	%		5.47	%		5.50	%		5.93	%				5.83	%

	2006
	Book		Fair
	Value		Value
Investment securities
Government sponsored
enterprises (FHLB
and FHLMC	$	8,630	$	8,647
Municipal securities		9,780		9,768
Corporate securities		18,397		18,733
Mortgage-backed securities		13,488		13,381
Total	$	50,295	$	50,529

The interest rate environment and the need for liquidity resulted in an annualized average yield on the investment portfolio of 5.8%, 5.4%, and 4.6% during 2007, 2006 and 2005, respectively. At December 31, 2007, 2006 and 2005, the market value of the investment portfolio was $99.3 million, $50.5 million, and $33.2 million, respectively. Amortized cost was $100.3 million, $50.3 million, and $33.7 million.

30

Management’s Discussion and Analysis

Federal Funds Sold

Federal funds represent the most liquid portion of the Bank's invested funds and generally the lowest yielding portion of earning assets. However, because of the flat yield curve and the need to maintain liquidity, management maintained a significant amount of Federal funds during the past three years. Average Federal funds sold totaled $5.5 million, $4.6 million, and $13.6 million in 2007, 2006, and 2005, respectively. There were no Federal funds sold at December 31, 2007 and $2.6 million at December 31, 2006. The decrease from 2006 to 2007 was a result of management allocating funds to higher-yielding assets.

Deposits

The Bank relies on deposits generated in its market area to provide the majority of funds needed to support lending activities and for investments in liquid assets. More specifically, core deposits (total deposits less time deposits in denominations of $100,000 or more) are the primary funding source.

The Bank's balance sheet growth is largely determined by the availability of deposits in its market, the cost of attracting the deposits, and the prospects of profitably utilizing the available deposits by increasing the loan or investment portfolios. Market conditions have resulted in depositors shopping for better deposit rates more than in the past. An increased customer awareness of interest rates adds to the importance of rate management. The Bank's management must continuously monitor market pricing, competitor's rates, and internal interest rate spreads to maintain the Bank’s growth and achieve profitability. The Bank attempts to structure rates so as to promote deposit and asset growth while at the same time increasing the overall profitability of the Bank.

Average total deposits were $354.5 million during 2007. This is an increase of 18.8% over 2006. Average total deposits were $298.3 million for the year ended December 31, 2006, an increase of 17.9% over 2005. Substantially all of those deposits were core deposits. The percentage of the Bank's average deposits that were interest bearing in 2007 was 89.8% and 88.9% during 2006 and 90.4% during 2005. Average demand deposits which earn no interest were $36.1 million, $33.3 million and $24.4 million for the periods ended December 31, 2007, 2006 and 2005, respectively.

Management’s strategy has been to support loan and investment growth with core deposits and not to aggressively solicit the more volatile, large denomination certificates of deposit. Large denomination certificates of deposit are particularly sensitive to changes in interest rates. Management considers these deposits to be volatile and, in order to minimize liquidity and interest rate risks, invests these funds in short-term investments.

Average deposits and related average rates paid for the periods ended December 31, 2007, 2006, and 2005 are summarized in the following table.

Average Deposit Mix (dollars in thousands)

	2007					2006					2005
	Amount		Rate			Amount		Rate			Amount		Rate
Interest bearing deposits:
Demand accounts	$	26,714		.62	%	$	27,404		.75	%	$	17,803		.73	%
Money market		66,482		3.58			62,472		2.37			45,980		2.25
Savings		6,138		.89			6,657		.67			6,582		.85
Time deposit		218,997		5.05			168,532		4.27			158,227		3.22
Total interest bearing deposits		318,331		4.29			265,065		3.58			228,592		2.76
Noninterest bearing demand deposits		36,181					33,259					24,402
Total deposits	$	354,512				$	298,324				$	252,994

31

Management’s Discussion and Analysis

The following table provides maturity information relating to time deposits of $100,000 or more at December 31, 2007.

Large Time Deposit Maturities, (thousands)

Remaining maturity of three months or less	$	34,674
Remaining maturity over three through twelve months		94,359
Remaining maturity over twelve months		13,499
Total time deposits of $100,000 or more	$	142,532

Securities Sold Under Agreements to Repurchase

Other borrowed funds consisting of securities sold under agreements to repurchase and Federal funds purchased were $29.2 million, $5.4 million, and $2.7 million at December 31, 2007, 2006 and 2005, respectively. The increase from 2006 to 2007 included $20,000,000 of reverse repurchase agreements at favorable rates used to purchase $20,000,000 of investments at a favorable spread. Average short-term debt was $10.5 million, $5.1 million, and $3.6 million during 2007, 2006 and 2005, respectively. The related interest expense was $468,792, $225,725, and $76,247 during 2007, 2006, and 2005, respectively.

Short-term Borrowings

There were three variable rate FHLB advances of $2,000,000, $6,000,000 and $5,000,000 at December 31, 2007 and no short-term borrowings at December 31, 2006.

Long-term Debt

As a member of the Federal Home Loan Bank of Atlanta, the Bank has the ability to borrow up to 10% of total assets in the form of FHLB advances. At December 31, 2007 and 2006 advances of $25.5 million and $23.5 million, respectively were outstanding. The average amount outstanding during 2007 and 2006 was $26.4 million and $17.1 million, respectively. Approximately $18,000,000 in 1-4 family residential loans, $33,000,000 in commercial real estate loans and 17,000,000 in home equity line of credit loans were pledged as collateral for the FHLB advances at December 31, 2007.

Maturity Date		Advance	Rate
02/10/10		2,500,000	Fixed at 5.85%	Convertible quarterly
07/12/12		9,000,000	1 Month LIBOR - .50%
12/02/13		5,000,000	3 Month LIBOR - .50%
09/29/15		4,000,000	Fixed at 4.06%	Convertible 9/29/09
04/22/19		5,000,000	3 Month LIBOR - .50%	Convertible 4/22/09
	$	25,500,000

32

Management’s Discussion and Analysis

Capital Adequacy

Stockholders’ equity was $35.0 million at December 31, 2007. This was a 10.5% increase over the $31.7 million at the end of 2006. Average stockholders' equity as a percentage of average total assets was 7.9%, 7.3% and 6.7% for 2007, 2006, and 2005, respectively.

The Company completed a unit offering on August 31, 2006 consisting of one share of common stock and one warrant to purchase a share of the Company’s common stock at a price per share of $21.82 at any time until September 30, 2009. The units were offered for sale to the holders of record of the Company’s common stock at the close of business on July 12, 2006. The offering raised $3,582,000 less expenses of $46,000 of additional capital through the sale of 231,778 units (adjusted for stock dividends).

The Company also completed a private offering on October 31, 2006 consisting of one share of Series A convertible preferred stock and one detachable warrant to purchase one share of the Company’s common stock at a price per share of $21.82 at any time until September 30, 2009. The private offering raised $1,006,000 less expenses of $13,000 of additional capital through the sale of 65,111 units. Each share of preferred stock may be converted at the election of its holder to one share of common stock after November 1, 2007 (adjusted for stock dividends).

The Company completed its first issuance of Trust Preferred securities in December 2003 in the amount of $8 million. The Trust Preferred securities are accounted for as long-term debt in the accompanying financial statements, however, for regulatory capital purposes, the majority of this issuance is considered Tier 1 capital with the remainder qualifying as Tier 2 capital.

These capital transactions are being utilized to capitalize the continued growth of the Company and the Bank.

Regulatory guidelines relating to capital adequacy provide minimum risk-based ratios which assess capital adequacy while encompassing all credit risks, including those related to off-balance sheet activities. Capital ratios under these guidelines are computed by weighing the relative risk of each asset category to derive risk-adjusted assets. For the Company, risk-based capital guidelines require minimum ratios of core (Tier 1) capital (common stockholders’ equity) to risk-weighted assets of 4.0% and total regulatory capital (core capital plus allowance for loan losses up to 1.25% of risk-weighted assets) to risk-weighted assets of 8.0%. As of December 31, 2007, the Company’s Tier 1 risk-weighted capital ratio and total capital ratio were 8.7% and 10.6%, respectively.

The Bank also has capital ratio constraints with which to comply. These ratios are slightly different than those required at the parent company level. At December 31, 2007, the Bank’s capital ratios were as follows: Tier 1 leverage ratio, 9.3%, Tier 1 risk-based capital ratio, 10.1% and total risk-based ratio, 11.3%. These capital ratios were sufficient at December 31, 2007 to classify the Bank as “well capitalized” in accordance with the FDIC’s regulatory capital rules. The Company’s and Bank’s actual capital amounts and ratios are presented in the following table.

33

Management’s Discussion and Analysis

Capital Requirements (dollars in thousands)

Waccamaw Bankshares, Inc.

						Risk-based Capital
	Leverage Capital					Tier I Capital					Total Capital
	Amount		Percentage(1)			Amount		Percentage(2)			Amount		Percentage(2)
Actual	$	40,350		8.70	%	$	40,350		9.63	%	$	45,591		10.88	%
Required		18,547		4.00	%		16,755		4.00	%		33,509		8.00	%

Waccamaw Bank

						Risk-based Capital
	Leverage Capital					Tier I Capital					Total Capital
	Amount		Percentage(1)			Amount		Percentage(2)			Amount		Percentage(2)
Actual	$	39,429		8.53	%	$	39,429		9.42	%	$	44,670		10.67	%
Required		18,497		4.00	%		16,792		4.00	%		33,585		8.00	%

(1)	Percentage of total adjusted average assets. The Federal Reserve Board (“FRB”) minimum leverage ratio requirement is 3 percent to 5 percent, depending on the institution’s composite rating as determined by its regulators. The FRB has not advised the Company of any specific requirements applicable to it.
(2)	Percentage of risk-weighted assets.

Nonperforming and Problem Assets

Certain credit risks are inherent in making loans, particularly commercial and consumer loans. Management prudently assesses these risks and attempts to manage them effectively. The Bank also attempts to reduce repayment risks by adhering to internal credit policies and procedures. These policies and procedures include officer and customer limits, periodic loan documentation review and follow up on exceptions to credit policies.

The allowance for loan losses is maintained at a level adequate to absorb probable losses. Some of the factors which management considers in determining the appropriate level of the allowance for credit losses are: past loss experience, an evaluation of the current loan portfolio, identified loan problems, the loan volume outstanding, the present and expected economic conditions in general, regulatory policies, and in particular, how such conditions relate to the market areas that the Bank serves. Bank regulators also periodically review the Bank's loans and other assets to assess their quality. Loans deemed uncollectible are charged to the allowance. Provisions for loan losses and recoveries on loans previously charged off are added to the allowance.

The accrual of interest on loans is discontinued on a loan when, in the opinion of management, there is an indication that the borrower may be unable to meet payments as they become due. Upon such discontinuance, all unpaid accrued interest is reversed.

The provision for loan losses, net charge-offs and the activity in the allowance for loan losses is detailed in the following table.

34

Management’s Discussion and Analysis

Allowance for Loan Losses (dollars in thousands)

	2007			2006			2005			2004			2003
Balance at beginning of period	$	4,886		$	3,939		$	2,791		$	2,218		$	1,854
Charge-offs:
Construction loans		(86	)		-			-			-			-
Commercial and industrial loans		(1	)		(500	)		(86	)		(63	)		(14	)
Consumer and other		(201	)		(85	)		(184	)		(210	)		(378	)
Total charge-offs		(288	)		(585	)		(270	)		(273	)		(392	)
Recoveries:
Construction loans		379			-			-			-			-
Commercial and industrial loans		-			-			34			17			-
Consumer and other		23			36			14			10			26
Total recoveries		402			36			48			27			26
Net charge-offs		114			(549	)		(222	)		(246	)		(366	)
Allowance purchased from The Bank
of Heath Springs		-			46			-			-			-
Provision for loan losses		386			1,450			1,370			819			730
Balance at the end of the year	$	5,386		$	4,886		$	3,939		$	2,791		$	2,218
Total loans outstanding at year-end	$	360,977		$	317,590		$	261,905		$	209,827		$	144,813
Average net loans outstanding for the year	$	332,451		$	279,625		$	238,579		$	168,757		$	137,403
Allowance for loan losses to
loans outstanding		1.49	%		1.54	%		1.50	%		1.33	%		1.53	%
Ratio of net loan charge-offs to
average loans outstanding		(0.03	)%		0.20	%		0.09	%		0.15	%		0.27	%

The following table sets forth information about the Bank’s allowance for loan losses by asset category at the dates indicated. The allocation of the allowance to each category is not necessarily indicative of future losses and does not restrict the use of the allowance to absorb losses in any category.

Allowance for Loan Losses by Category (dollars in thousands)

	2007				2006				2005				2004				2003
	Amount		%(1)		Amount		%(1)		Amount		%(1)		Amount		%(1)		Amount		%(1)
Construction and development	$	1,936		33.73	$	1,766		34.33	$	1,320		31.91	$	253		17.89	$	351		16.15
Farmland		61		1.05		39		.76		33		0.97		28		1.01		30		1.48
1-4 family residential		1,059		20.96		954		20.30		911		23.98		702		27.87		575		26.48
Multifamily residential		42		1.02		42		1.15		49		1.71		39		1.72		23		1.31
Nonfarm, nonresidential		1,399		25.82		1,176		23.15		1,048		25.66		358		31.05		299		15.28
Total real estate		4,497		82.58		3,977		79.69		3,361		84.23		1,380		79.54		1,278		60.70
Agricultural		10		.19		10		.22		5		0.14		28		0.94		52		2.24
Commercial and industrial		593		12.09		664		15.38		389		11.09		1,241		14.74		711		29.74
Consumer		226		3.86		212		4.15		168		4.03		124		4.08		149		6.06
Other		60		1.28		23		.56		16		0.51		18		0.70		28		1.26
Total	$	5,386		100.00	$	4,886		100.00	$	3,939		100.00	$	2,791		100.00	$	2,218		100.00

(1)Represents the percentage of loans in each category to total loans outstanding.

Management realizes that general economic trends greatly affect loan losses and no assurances can be made about future losses. Management does, however consider the allowance for loan losses to be adequate at December 31, 2007.

35

Management’s Discussion and Analysis

The following table sets forth information about the Bank’s nonperforming assets.

Nonperforming Assets (dollars in thousands)

	2007			2006			2005			2004			2003
Nonaccrual loans	$	1,534		$	1,181		$	1,711		$	1,723		$	701
Loans past due 90 days or more
and still accruing interest		2,608			340			250			628			486
Total nonperforming loans		4,142			1,521			1,961			2,351			1,187
Other real estate and repossessed
personal property		340			32			140			82			164
Total nonperforming assets	$	4,482		$	1,553		$	2,101		$	2,433		$	1,351
Nonperforming assets as a
percentage of:
Total assets		.88	%		.39	%		.65	%		.94	%		.70	%
Total loans		1.24	%		.49	%		.80	%		1.16	%		.93	%

Liquidity and Sensitivity

The principal goals of the Bank's asset and liability management strategy are the maintenance of adequate liquidity and the management of interest rate risk. Liquidity is the ability to convert assets to cash in order to fund depositors' withdrawals or borrowers' loans without significant loss. Interest rate risk management balances the effects of interest rate changes on assets that earn interest against liabilities on which interest is paid, to protect the Bank from wide fluctuations in its net interest income which could result from interest rate changes.

Management must ensure that adequate funds are available at all times to meet the needs of its customers. On the asset side of the balance sheet, maturing investments, loan payments, maturing loans, federal funds sold, and unpledged investment securities are principal sources of liquidity. On the liability side of the balance sheet, liquidity sources include core deposits, the ability to increase large denomination certificates of deposit, Federal funds lines from correspondent banks, borrowings from the Federal Home Loan Bank, as well as the ability to generate funds through the issuance of long-term debt and equity.

Interest rate risk is the effect that changes in interest rates would have on interest income and interest expense as interest-sensitive assets and interest-sensitive liabilities either reprice or mature. Management attempts to maintain the portfolios of earning assets and interest-bearing liabilities with maturities or repricing opportunities at levels that will afford protection from erosion of net interest margin, to the extent practical, from changes in interest rates.

At December 31, 2007, the Bank was cumulatively asset-sensitive (earning assets subject to interest rate changes exceeded interest-bearing liabilities subject to changes in interest rates). Demand, savings and money market accounts repricing within three months totaled $96.6 million. Historically, these short-term deposits are not as rate sensitive as other types of interest-bearing deposits. The Bank is asset sensitive in the three month or less time period, with the four to twelve months time period being liability-sensitive, the thirteen to sixty months time period being asset-sensitive and the over sixty months time period being asset-sensitive.

36

Management’s Discussion and Analysis

Time deposits in denominations of $100,000 or more and large municipal repurchase accounts are especially susceptible to interest rate changes. These deposits are matched with short-term investments. Matching sensitive positions alone does not ensure that the Bank has no interest rate risk. The repricing characteristics of assets are different from the repricing characteristics of funding sources. Thus, net interest income can be impacted by changes in interest rates even if the repricing opportunities of assets and liabilities are perfectly matched.

Mortgage backed securities are shown based on their contractual maturity but tend to be repaid earlier. Long-term debt maturing in 2010 with a quarterly call feature is shown in the 1-3 month repricing period. Repurchase agreements with a put feature is shown in the repricing period in which the structure is put back to the bank.

The table below shows the sensitivity of the Bank's balance sheet at the dates indicated but is not necessarily indicative of the position on other dates.

Interest Rate Sensitivity (dollars in thousands)

	December 31, 2007
	Maturities/Repricing
	1-3			4-12			13-60			Over 60
	Months			Months			Months			Months			Total
Earning assets:
Loans	$	213,459		$	21,851		$	88,671		$	36,996		$	360,977
Investments		794			14			5,881			95,955			102,644
Deposits with banks		912			-			-			-			912
Total		215,165			21,865			94,552			132,951			464,533
Interest-bearing liabilities:
Demand accounts		24,841			-			-			-			24,841
Savings and money market		71,760			-			-			-			71,760
Time deposits		63,399			165,871			16,314			3,624			249,208
Repurchase agreements and purchased
funds		24,651			10,000			10,000			-			44,651
Short-term borrowings		6,000			7,000			-			-			13,000
Long-term debt		-			-			11,500			14,000			25,500
Junior subordinated debentures		8,248			-			-			-			8,248
Total		198,899			182,871			37,814			17,624			437,208
Interest rate gap	$	16,266		$	(161,006	)	$	56,738		$	115,327		$	27,325
Cumulative interest sensitivity gap	$	16,266		$	(144,740	)	$	(88,002	)	$	27,325
Ratio of sensitivity gap to total
earnings assets		3.50	%		(34.66	)%		12.21	%		24.83	%		5.89	%
Cumulative ratio of sensitivity gap
to total earnings assets		3.50	%		(31.16	)%		(18.94	)%		5.89	%

Effects of Inflation

Interest rates are affected by inflation, but the timing and magnitude of the changes may not coincide with changes in the consumer price index. Management actively monitors the Bank’s interest rate sensitivity in order to minimize the effects of inflationary trends on the Bank’s operations. Other areas of non-interest expense may be more directly affected by inflation.

37

Management’s Discussion and Analysis

Financial Ratios

The following table summarizes ratios considered to be significant indicators of the Bank’s operating results and financial condition for the periods indicated.

Key Financial Ratios

	2007			2006			2005
Average equity to average assets		7.64	%		7.27	%		6.70	%
Return on average assets		.89	%		1.02	%		1.00	%
Return on average equity		11.67	%		14.07	%		14.98	%

Annual Meeting

The annual meeting of stockholders will be held Thursday, May 22, 2008 at 7:00 p.m. at the Vineland Station Train Depot, Whiteville, North Carolina.

Requests for Information

Requests for information should be directed to Mr. James G. Graham, President, at Waccamaw Bankshares, Inc., Post Office Box 2009, Whiteville, North Carolina, 28472; telephone (910) 641-0044.

Independent Auditors	Stock Transfer Agent	Legal Counsel
Elliott Davis, PLLC	First Citizens Bank	Gaeta & Eveson, P.A.
Certified Public Accountants	& Trust Company	8305 Falls of Neuse Road
Post Office Box 760	Post Office Box 29522	Suite 203
Galax, Virginia 24333	Raleigh, North Carolina 27626-0522	Raleigh, North Carolina 27615

Federal Deposit Insurance Corporation

The Bank is a member of the FDIC. This statement has not been reviewed, or confirmed for accuracy or relevance by the Federal Deposit Insurance Corporation.

38