Midcarolina Financial (MCFI) 10-Q 2006 Q1 Quarterly report

United States

Securities and Exchange Commission

Washington, D.C. 20549

Form 10-Q

x Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended March 31, 2006

¨ Transition Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period ended                    

Commission File Number 000-49848

MidCarolina Financial Corporation

(Exact name of registrant as specified in its charter)

North Carolina	55-0790872
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

3101 South Church Street Burlington, North Carolina	27216
(Address of principal executive offices)	(Zip Code)

(336)538-1600

(Registrant’s telephone number, including area code)

Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

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

Large accelerated filer  ¨    Accelerated filer  ¨    Non-accelerated filer  x

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

As of May 10, 2006, the registrant had outstanding 3,131,380 shares of Common Stock, no par value.

		Page No.
Part I.	FINANCIAL INFORMATION
Item 1 -	Financial Statements (Unaudited)
	Consolidated Balance Sheets March 31, 2006 and December 31, 2005	3
	Consolidated Statements of Operations Three Months Ended March 31, 2006 and 2005	4
	Consolidated Statements of Comprehensive Income Three Months Ended March 31, 2006 and 2005	5
	Consolidated Statement of Shareholders’ Equity Three Months Ended March 31, 2006	6
	Consolidated Statements of Cash Flows Three Months Ended March 31, 2006 and 2005	7
	Notes to Consolidated Financial Statements	8
Item 2 -	Management’s Discussion and Analysis of Financial Condition and Results of Operations	13
Item 3-	Quantitative and Qualitative Disclosures About Market Risk	15
Item 4 -	Controls and Procedures	16
Part II.	Other Information
Item 1A -	Risk Factors	17
Item 2 -	Unregistered Sales of Equity Securities and Use of Proceeds	17
Item 6 -	Exhibits	17

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Part I. FINANCIAL INFORMATION

Item 1 - Financial Statements

MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED BALANCE SHEETS

	March 31, 2006 (Unaudited)			December 31, 2005(*)
	(Amounts in thousands)
ASSETS
Cash and due from banks	$	977		$	1,062
Federal funds sold and interest-earning deposits at FHLB		14,546			12,036
Investment securities:
Available for sale		60,536			58,373
Held to maturity		250			250
Loans held for sale		1,305			893
Loans		301,775			279,962
Allowance for loan losses		(4,328	)		(4,090	)
NET LOANS		297,447			275,872
Investment in stock of FHLB of Atlanta		2,493			2,189
Investment in life insurance		7,102			7,037
Premises and equipment, net		6,599			6,115
Other assets		6,856			6,613
TOTAL ASSETS	$	398,111		$	370,440
LIABILITIES AND SHAREHOLDERS’ EQUITY
LIABILITIES
Deposits:
Noninterest-bearing demand	$	33,437		$	31,544
Interest-bearing demand		67,024			63,738
Savings		6,676			6,848
Time		217,173			198,132
TOTAL DEPOSITS		324,310			300,262
Short-term borrowings		21,000			10,000
Long-term borrowings		26,764			34,764
Accrued expenses and other liabilities		2,318			2,321
TOTAL LIABILITIES		374,392			347,347
SHAREHOLDERS’ EQUITY:
Noncumulative, perpetual preferred stock, no par value, 20,000,000 shares authorized; 5,000 shares issued and outstanding at March 31, 2006 and December 31, 2005, respectively		4,819			4,819
Common stock, no par value, 80,000,000 shares authorized; 3,131,380 and outstanding at March 31, 2006 and December 31, 2005, respectively		11,392			11,392
Retained earnings		8,139			7,429
Accumulated other comprehensive loss		(631	)		(547	)
TOTAL SHAREHOLDERS’ EQUITY		23,719			23,093
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY	$	398,111		$	370,440

* Derived from audited consolidated financial statements.

See accompanying notes.

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MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

	Three Months Ended March 31,
	2006			2005
	(Amounts in thousands, except per share data)
INTEREST INCOME
Loans and loan fees	$	5,319		$	3,390
Investment securities:
Taxable		465			313
Tax-exempt		221			73
Federal funds sold and interest-earning deposits		67			40
Other		26			19
TOTAL INTEREST INCOME		6,098			3,835
INTEREST EXPENSE
Demand deposits		428			168
Savings		17			8
Time		1,972			941
Short-term borrowings		195			51
Long-term borrowings		345			336
TOTAL INTEREST EXPENSE		2,957			1,504
NET INTEREST INCOME		3,141			2,331
PROVISION FOR LOAN LOSSES		232			271
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES		2,909			2,060
NON-INTEREST INCOME
Service charges on deposits accounts		230			213
Mortgage operations		100			404
Income from brokerage activities		56			57
Increase in cash surrender value of life insurance		64			63
Loss on sale of investments		(44	)		(1	)
Other (Note F)		88			53
TOTAL NON-INTEREST INCOME		494			789
NON-INTEREST EXPENSE
Salaries and employee benefits		1,235			1,240
Occupancy and equipment		253			248
Data processing and other outside services		304			221
Office supplies and postage		90			69
Deposit and other insurance		68			48
Professional and other services		16			36
Advertising		48			63
Other (Note F)		121			166
TOTAL NON-INTEREST EXPENSE		2,135			2,091
INCOME BEFORE INCOME TAXES		1,268			758
INCOME TAXES		454			258
NET INCOME		814			500
Dividends on preferred stock		(104	)		—
Net income available to common shareholders	$	710		$	500
NET INCOME PER COMMON SHARE
Basic	$	.21		$	.15
Diluted	$	.19		$	.14

See accompanying notes.

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MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

	Three Months Ended March 31,
	2006			2005
	(Amounts in thousands)
Net income	$	814		$	500
Other comprehensive income (loss):
Securities available for sale:
Unrealized holding gains (losses) on available-for-sale securities		(198	)		(546	)
Tax effect		76			215
Reclassification of losses recognized in net income		44			1
Tax effect		(17	)		—
Net of tax amount		(95	)		(330	)
Cash flow hedging activities:
Unrealized holding gains on cash flow hedging activities		18			81
Tax effect		(7	)		(32	)
Net of tax amount		11			49
Total other comprehensive income (loss)		(84	)		(281	)
Comprehensive income	$	730		$	219

See accompanying notes.

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MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY (Unaudited)

	Preferred stock			Common stock			Retained earnings			Accumulated other comprehensive loss			Total shareholders’ equity
	Shares	Amount		Shares	Amount
	(Amounts in thousands, except share data)
Balance at December 31, 2005	5,000	$	4,819	3,131,380	$	11,392	$	7,429		$	(547	)	$	23,093
Net income	—		—	—		—		814			—			814
Other comprehensive loss	—		—	—		—		—			(84	)		(84	)
Preferred dividends paid	—		—	—		—		(104	)		—			(104	)
Balance at March 31, 2006	5,000	$	4,819	3,131,380	$	11,392	$	8,139		$	(631	)	$	23,719

See accompanying notes.

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MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

	Three Months Ended March 31,
	2006			2005
	(Amounts in thousands)
Operating Activities
Net income	$	814		$	500
Depreciation and amortization		80			(17	)
Provision for loan losses		232			271
Loss on sale of investment securities available for sale		44			1
Gain on sale of loans		(100	)		(404	)
Origination of loans held for sale		(5,407	)		(22,607	)
Proceeds from sales of loans held for sale		5,095			23,962
Increase in cash surrender value life insurance		(65	)		(63	)
Changes in assets and liabilities:
(Increase) in other assets		(335	)		(597	)
Increase in accrued expenses and other liabilities		67			483
Net cash provided by operating activities		425			1,529
Investing Activities
Purchases of investment securities available for sale		(5,974	)		(11,064	)
Maturities and calls of investment securities available for sale		717			—
Principal paydowns on investment securities available for sale		553			999
Sales of investment securities available for sale		2,370			5,447
Net increase in loans from originations and principal repayments		(21,807	)		(16,699	)
(Purchase) redemption of FHLB stock		(304	)		305
Purchases of premises and equipment		(589	)		(72	)
Proceeds from sale of foreclosed assets		90			172
Net cash used by investing activities		(24,944	)		(20,912	)
Financing Activities
Net increase in deposits		24,048			31,264
Net increase (decrease) in borrowings		3,000			(10,000	)
Non-cumulative perpetual preferred stock dividends paid		(104	)		—
Purchase of fractional shares		—			(6	)
Net cash provided by financing activities		26,944			21,258
Net increase in cash and cash equivalents		2,425			1,875
Cash and cash equivalents, beginning of period		13,098			10,093
Cash and cash equivalents, end of period	$	15,523		$	11,968

See accompanying notes.

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MIDCAROLINA FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

NOTE A - BASIS OF PRESENTATION

The consolidated financial statements include the accounts and transactions of MidCarolina Financial Corporation (the “Company”) and its wholly-owned subsidiary MidCarolina Bank (the “Bank”). All intercompany transactions and balances have been eliminated in consolidation. In management’s opinion, the financial information, which is unaudited, reflects all adjustments (consisting solely of normal recurring adjustments) necessary for a fair presentation of the financial information as of and for the three month periods ended March 31, 2006 and 2005, in conformity with accounting principles generally accepted in the United States of America.

The preparation of the consolidated financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities at the date of the financial statements, as well as the amounts of income and expense during the reporting period. Actual results could differ from those estimates. Operating results for the three month period ended March 31, 2006 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2006.

The organization and business of the Company, accounting policies followed by the Company and other information are contained in the notes to the consolidated financial statements filed as part of the Company’s annual report on Form 10-KSB. This quarterly report should be read in conjunction with such annual report.

NOTE B - COMMITMENTS

At March 31, 2006, loan commitments were as follows (in thousands):

Commitments to extend credit	$	50,608
Undisbursed lines of credit		26,887
Standby letters of credit		9,543
Commitments to sell loans held for sale		1,305

NOTE C - PER SHARE DATA

Basic and diluted net income available to common shareholders per share has been computed based on the weighted average number of shares outstanding during each period after retroactively adjusting for a 10% stock dividend declared May 2, 2006 and to be distributed June 15, 2006. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued.

The weighted average number of shares outstanding or assumed to be outstanding are summarized below:

	Three Months Ended March 31,
	2006	2005
Weighted average number of common shares used in computing basic net income per share	3,444,518	3,438,792
Effect of dilutive stock options	337,813	280,809
Weighted average number of common shares and dilutive potential common shares used in computing diluted net income per share	3,782,331	3,719,601

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MIDCAROLINA FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

NOTE D - STOCK COMPENSATION PLANS

Effective January 1, 2006, the Company adopted the Statement of Financial Accounting Standards (“SFAS”) No. 123(R),Accounting for Stock-Based Compensation, which is a revision of SFAS No. 123Accounting for Stock-Based Compensation and supersedes Accounting Principles Board (“APB”) Opinion No. 25Accounting for Stock Issued to Employees. SFAS No. 123(r) requires companies to recognize in the income statement the grant date fair value of stock options and other equity-based compensation issued to employees over the period during which an employee is required to provide service in exchange for the award, which will often be the shorter of the vesting period or the period the employee will be retirement eligible. SFAS No. 123(r) sets accounting requirements for “share-based” compensation to employees, including employee-stock purchase plans (“ESPPs”). Awards to most nonemployee directors will be accounted for as employee awards. SFAS No. 123R also amends SFAS No. 95 “Statement of Cash Flows,” to require that excess tax benefits be reported as financing cash inflows, rather than as a reduction of taxes paid, which is included within operating cash flows. The Company adopted SFAS No. 123R using the modified prospective application as permitted under SFAS No. 123R. Accordingly, prior period amounts have not been restated. Under this application, the Company is required to record compensation expense for all awards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. Adoption of SFAS No. 123R had no impact on net income or cash flows for the three-months ended March 31, 2006.

Prior to the adoption of SFAS No. 123r, The Company used the intrinsic value method as prescribed by APB No. 25 and thus recognized no compensation expense for options granted with the exercise price equal to the fair value of the Company’s common stock on the date of grant. The Company has two share- based compensation plans in effect at March 31, 2006. During the three month period ended March 31, 2006, there was no compensation cost charged against income. The following table presents the Proforma impact had SFAS No. 123R been effective at March 31, 2005.

	Three Months Ended March 31, 2005
	(Amounts in thousands, except per share data)
Net income:
As reported	$	500
Less preferred dividends		—
Net income available to common shareholders		500
Stock-based compensation
Deduct: total stock-based employee compensation expense determined under fair value method for all awards, net of related tax effects		(9	)
Pro forma	$	491
Basic net income per share:
As reported	$	.15
Pro forma		.15
Diluted net income per share:
As reported	$	.14
Pro forma		.14

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MIDCAROLINA FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

NOTE D - STOCK COMPENSATION PLANS (Continued)

During 2004, the Board of Directors and shareholders approved an Incentive Stock Option Plan for officers and key employees. Under the provisions of the Plan, grants are made at the discretion of an administrative committee appointed by the Board of Directors at the fair value of the stock on the date of grant. The Board reserved 300,000 shares of authorized and unissued stock for grant. Options have a vesting schedule that provides that 20% of the options granted will be vested and exercisable on the date of grant and 20% will vest and become exercisable on each of the next four annual anniversary dates thereafter. The options are granted for a ten-year term.

During 1998, the Board of Directors and shareholders approved an Incentive Stock Option Plan for officers and key employees. Under provisions of the Plan, grants are made at the discretion of an administrative committee appointed by the Directors at fair value of the stock on the date of grant. The Board reserved 297,000 shares of authorized and unissued stock for grant. The options have a ten-year term.

During 1998, the Board of Directors and shareholders approved a non-qualified stock option plan for certain original directors of the Company, and 297,000 shares of authorized and unissued stock were reserved for award. At adoption, all options were granted at a split-adjusted exercise price of $4.73 per share, the split-adjusted fair value of the stock on the date of grant. Director options vested 100% on the date of the grant. The options are granted for a ten-year term.

During the fourth quarter of 2005, the Company vested all unvested stock options. As a result of this decision 21,272 non-vested options were accelerated from their established vesting over a four-year period from date of grant to being fully vested. Stock options granted after December 31, 2005 vest over a four year period. All unexercised options expire ten years after the date of grant.

The fair value of each option award is estimated on the date of grant using the Black-Scholes option-pricing model, which uses assumptions, noted in the following table. Expected volatility is based on implied volatilities from options traded on the Company’s common stock. The Company uses historical data to estimate option exercises and employee terminations used in the model. The risk-free interest rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. There were no options granted during the three months ended March 31, 2005 and 2006.

A summary of stock option activity under the stock option plans as of March 31, 2006 and changes during the three-month period ended March 31, 2006 is presented below reflecting the 10% stock dividend declared in May 2006 to be distributed in June 2006.

	Shares Available for Future Grants	Outstanding Options			Exercisable Options
		Number Outstanding	Weighted Average Exercise Price		Number Outstanding	Weighted Average Exercise Price
At December 31, 2005	168,854	673,653	$	6.24	673,653	$	6.24
Options granted	—	—		—	—		—
Options vested	—	—		—	—		—
Options exercised	—	—		—	—		—
Options forfeited	—	—		—	—		—
At March 31, 2006	168,854	673,653	$	6.24	673,653	$	6.24

The aggregate intrinsic value of exercisable options is approximately $7.6 million at March 31, 2006

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MIDCAROLINA FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

NOTE D - STOCK COMPENSATION PLANS (Continued)

Additional information concerning the Company’s stock options is as follows:

Range of Exercise Prices	Number Outstanding at March 31, 2006
$3.45 – 4.59	446,844
$6.66 – 9.72	53,559
$11.28 – 12.87	173,250
Outstanding at end of year	673,653

The weighted average remaining contractual life of those options was 4.63 years.

NOTE E - LOANS

Following is a summary of loans at each of the balance sheet dates presented:

	At March 31, 2006					At December 31, 2005
	Amount			Percent of Total		Amount		Percent of Total
	(In thousands)
Real estate loans	$	258,387		85.58	%	$	236,190	84.42	%
Commercial and industrial loans		36,971		12.25	%		38,929	13.86	%
Loans to individuals		6,547		2.17	%		4,836	1.72	%
Subtotal		301,805		100.00	%		279,955	100.00	%
Less: Net deferred loan (fees) costs		(30	)				7
Loans	$	301,775				$	279,962

An analysis of the allowance for loan losses is as follows:

	Three Months Ended March 31,
	2006			2005
	(In thousands)
Balance at beginning of period	$	4,090		$	2,865
Provision charged to operations		232			271
Charge-offs		(6	)		(8	)
Recoveries		12			6
Net (charge-offs) recoveries		6			(2	)
BALANCE AT END OF PERIOD	$	4,328		$	3,13

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MIDCAROLINA FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

NOTE E - LOANS (Continued)

The following is a summary of nonperforming assets at the periods presented:

	March 31, 2006		December 31, 2005
	(In thousands)
Nonaccrual loans	$	1,340	$	249
Foreclosed assets		2,731		1,859
Total	$	4,071	$	2,108

NOTE F - NON-INTEREST INCOME AND NON-INTEREST EXPENSE

The major components of other non-interest income are as follows:

	Three Months Ended March 31,
	2006		2005
	(In thousands)
Debit card income	$	30	$	23
ATM interchange income		4		5
Safe deposit rent		3		3
Check upcharge		6		6
Income from rental property		28		—
Other		17		16
Total	$	88	$	53

The major components of other non-interest expense are as follows:

	Three Months Ended March 31,
	2006		2005
	(In thousands)
Travel	$	53	$	54
Contributions		8		10
Director fees		37		22
Dues and memberships		5		5
Credit reports and filing fees		7		9
Appraisals		—		3
Deposit charge offs		—		2
Loan collection expense		1		40
Other		10		22
Total	$	121	$	166

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

This Quarterly Report on Form 10-Q may contain certain forward-looking statements consisting of estimates with respect to the financial condition, results of operations and business of the Company that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include, but are not limited to, general economic conditions, changes in interest rates, deposit flows, loan demand, real estate values, and competition; changes in accounting principles, policies, or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory, and technological factors affecting the Company’s operations, pricing, products and services.

Financial Condition at March 31, 2006 and December 31, 2005

During the three-month period ending March 31, 2006, our total assets increased by $27.7 million to $398.1 million from $370.4 million at December 31, 2005. At March 31, 2006, loans totaled $301.8 million, an increase of $21.8 million, or 7.79%, for the three months, as loan demand continues to be strong in our markets. Our loan portfolio experienced increases in real estate and consumer loans in the amount of $21.3 million and $1.7 million, respectively. Commercial loans decreased by $2.0 million to $37.0 million. Federal funds sold and interest-earning deposits increased by $2.5 million to $14.5 million.

Our total liquid assets, which include cash and due from banks, federal funds sold and interest-earning deposits at FHLB of Atlanta, investment securities and loans held for sale increased by $5.0 million during the three months, to the $77.6 million or 19.50% of total assets at March 31, 2006 versus $72.6 million, or 19.61% of total assets, at December 31, 2005. The growth in liquid assets occurred in investment securities available for sale, interest-earning deposits and loans held for sale. At March 31, 2006, investment securities available for sale totaled $60.5 million, an increase of $2.2 million, or 3.71% compared to December 31, 2005. Federal funds sold and interest-earning deposits increased 20.85% to $14.5 million at March 31, 2006.

Deposits continue to be our primary funding source. At March 31, 2006, deposits totaled $324.3 million, an increase of $24.0 million, or 8.01%, from year-end 2005. Included in the deposit balances are $93.3 million of brokered certificates of deposit, an increase of $11.3 million or 13.78%, from year-end. We also utilize borrowings from the FHLB to support balance sheet management and growth. Borrowings from the FHLB of Atlanta increased by $3.0 million to $39.0 million at March 31, 2006.

Our capital position remains strong, with all of our regulatory capital ratios at levels that make us “well capitalized” under federal bank regulatory capital guidelines. At March 31, 2006, our shareholders’ equity totaled $23.7 million, an increase of $626,000 from the December 31, 2005 balance. This increase resulted from net income available to common shareholders of $710,000 for the three months, net of unrealized losses on available for sale securities in the amount of $95,000 and an $11,000 unrealized gain on cash flow hedging activities for the three months ended March 31, 2006.

Comparison of Results of Operations for the

Three Months Ended March 31, 2006 and 2005

Net Income. Our net income available for common shareholders for the three months ended March 31, 2006 was $710,000, an increase of $210,000, or 42.00%, from net income available to common shareholders of $500,000 for the same three-month period in 2005. Net income per diluted share of $0.19 increased $0.05 per diluted share compared to the prior period. We have experienced strong growth, with total assets averaging $379.3 million during the current three-month period compared to $291.4 million in the prior year period, an increase of 30.19%. Our interest rate spread and net yield on average interest-earning

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assets increased one basis point and 12 basis points respectively. An increase in net interest income and a decrease in non-interest income for the quarter ended March 31, 2004 of $810,000 and $295,000, respectively, exceeded the increase of $44,000 in non-interest expenses and a decrease of $39,000 in the provision for loan losses.

Net Interest Income. Net interest income increased by $810,000, or 34.75%, to $3.1 million for the three months ended March 31, 2006. Our total interest income benefited from strong growth in the level of average earning assets and increased asset yields caused by increases in interest rates that occurred from quarter to quarter. The rates earned on a significant portion of our loans adjust immediately when index rates such as our prime rate change. Conversely, most of our interest-bearing liabilities, including certificates of deposit and borrowings, have rates fixed until maturity. As a result, interest rate reductions will generally result in an immediate drop in our interest income on loans, with a more delayed impact on interest expense because reductions in interest costs will only occur upon renewals of certificates of deposit or borrowings. Conversely, interest rate increases should result in an immediate increase in our interest income on loans, with a more delayed impact on interest expense because increases in interest costs will occur upon renewals of certificates of deposits or borrowings. Average interest-earning assets increased $83.5 million, or 30.05%, during the first three months of 2006 as compared with the same period in 2005. Our average yield on total interest-earning assets increased by 124 basis points from 5.60% to 6.84%. Our average total interest-bearing liabilities increased by $76.4 million, or 30.81%, slightly more than our increase in interest-earning assets. Our average cost of total interest-bearing liabilities increased at the same rate as our yield on assets, increasing 124 basis points from 2.46% to 3.70%, reflecting the extremely competitive demand for deposits in our markets. For the three months ended March 31, 2006, our net interest spread was 3.15% and our net interest margin was 3.52%. For the three months ended March 31, 2005, our net interest rate spread was 3.14% and our net interest margin was 3.40%.

Provision for Loan Losses. Our provision for loan losses for the three months ended March 31, 2006 was $232,000, representing a decrease of $39,000 from the $271,000 provision we made for the three months ended March 31, 2005. Provisions for loan losses are charged to income to bring the allowance for loan losses to a level deemed appropriate by management. The Company has continued to provide provisions for loan losses as a result of the continued growth in the loan portfolio. Our loan recoveries of previously charged of loans were $12,000 during the three months ended March 31, 2006, offset by $6,000 of loan charge-offs. At March 31, 2006, we had non-accrual loans in the amount of $1.3 million, while the allowance for loan losses increased to $4.3 million, or 1.44% of total loans. The Bank has secured positions in these nonaccrual loans. At December 31, 2005, we had nonaccrual loans in the amount of $249,000, while the allowance for loan losses stood at $4.1 million, or 1.46% of total loans.

Non-Interest Income. For the first three months of 2006, non-interest income decreased $295,000, or 37.39%, to $494,000 from $789,000 for the same period the prior year. Decreases for the three months ended March 31, 2006 include an increase of $17,000 in service charges and fees on deposit, a decrease of $304,000 in mortgage operations income as a result of decreased originations affected by our previously announced discontinuation of our mortgage loan origination office in Raleigh, NC, a decrease in brokerage related income of $1,000, a loss on sale of investments of $44,000 offset by an increase in all other non-interest income of $35,000.

Non-Interest Expense. We strive to maintain levels of non-interest expense that we believe are appropriate given the nature of our operations and the investments in personnel and facilities that have been necessary to generate growth. For the three-months ended March 31, 2006, total non-interest expense increased $44,000, principally as a result of growth achieved from period to period. Salary and employee benefit expenses decreased $5,000, reflecting the decrease in commissions paid on mortgage originations. Data processing and other related outside services increased by $83,000, occupancy and equipment costs increased $5,000, deposit and other insurance expense increased $20,000, office supplies and postage increased $21,000, advertising expense decreased $15,000, professional and other services decreased $20,000 and decreases in our other non-interest expenses amounted to $45,000.

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Provision for Income Taxes.Our provision for income taxes, as a percentage of income before income taxes, was 35.81% and 34.04%, respectively, for the three months ended March 31, 2006 and 2005. The increase in the tax rate accrual is due to a proportionately higher percentage of state taxable income in 2006.

LIQUIDITY AND CAPITAL RESOURCES

Market and public confidence in our financial strength and in the strength of financial institutions in general will largely determine our access to appropriate levels of liquidity. This confidence is significantly dependent on our ability to maintain sound asset quality and appropriate levels of capital resources.

Liquidity is defined as our ability to meet anticipated customer demands for funds under credit commitments and deposit withdrawals at a reasonable cost and on a timely basis. Management measures our liquidity position by giving consideration to both on-and off-balance sheet sources of, and demands for, funds on a daily and weekly basis.

Sources of liquidity include cash and cash equivalents, net of federal requirements to maintain reserves against deposit liabilities; investment securities eligible for pledging to secure borrowings from dealers and customers pursuant to securities sold under repurchase agreements, investments available for sale, loan repayments, loan sales, deposits, and borrowings from the FHLB and from correspondent banks under overnight federal funds credit lines. In addition to interest rate-sensitive deposits, the Bank’s primary demand for liquidity is anticipated fundings under credit commitments to customers.

Because of our continued growth, we have maintained a relatively high position of liquidity in the form of cash, interest-bearing bank deposits, federal funds sold, investment securities and loans held for sale. These aggregated $77.6 million at March 31, 2006 compared to $72.6 million at December 31, 2005. Supplementing customer deposits as a source of funding, we have the ability to borrow up to $92.0 million from the FHLB of Atlanta, subject to collateral constraints, with $39.0 million outstanding at March 31, 2006 and $36.0 million at December 31, 2005. All borrowings with FHLB of Atlanta must be adequately collateralized. We believe that our combined aggregate liquidity position is sufficient to meet the funding requirements of loan demand and deposit maturities and withdrawals in the near term.

At March 31, 2006, our average equity to average asset ratio was 6.28%, and all of our capital ratios exceeded the minimums established for a well-capitalized bank by regulatory measures. Our Tier I risk-based capital ratio at March 31, 2006 was 10.60%.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

We believe there has not been any significant change in the overall analysis of financial instruments considered market risk sensitive, as measured by the factors of contractual maturities, average interest rates and the difference between estimated fair values and book values, since the analysis prepared and presented in conjunction with our Annual Report on Form 10-KSB for the fiscal year ended December 31, 2005.

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Item 4. Controls and Procedures

(a) As of 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 Company’s disclosure controls and procedures (as defined in Rule 13a-15(e)) pursuant to Exchange Act Rule 13a-14. Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are effective.

(b) No change in the Company’s internal control over financial reporting occurred during the Company’s last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

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Part II. OTHER INFORMATION

Item 1A. Risk Factors

There have been no material changes in our risk factors from those disclosed in our Annual Report on Form 10-KSB for the year ended December 31, 2005.

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

The following table provides information with respect to purchases made by or on behalf of the Company or any “affiliated purchases” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934), of the Company’s common stock during the three months ended March 31, 2006.

Period	Total Number of Shares Purchased	Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Program	Maximum Number of Shares That May Yet Be Purchased Under the Program
January 1, 2006 to January 31, 2006	—	$	N/A	—	N/A
February 1, 2006 to February 28, 2006	—	$	N/A	—	N/A
March 1, 2006 to March 31, 2006	—	$	N/A	—	N/A
Year-to-date	—	$		—

Item 6. Exhibits

(a) Exhibits.

Exhibit 3.1	Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3(i) of the Form 8-A12g filed on June 5, 2002), as amended on August 15, 2005 by Articles of Amendment (incorporated by reference to Exhibit 3(i) of the Form 8-K filed on August 29, 2005)
Exhibit 3.2	Bylaws, (incorporated herein by reference to Exhibit 3(ii) to the Form 8 filed on June 5, 2002)
Exhibit 4	Form of Stock Certificate, (incorporated by reference to the Form 10-QSB filed on November 12, 2002)
Exhibit 10.1	Employment Agreement with Randolph J. Cary, Jr., incorporated herein by reference to Exhibit 6(i) to the Form 10-SB filed with the FDIC on April 30, 1998

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Exhibit 10.2	MidCarolina Bank Employee Stock Option Plan, incorporated herein by reference to Exhibit 6(ii) to the Form 10-SB filed with the FDIC on April 30, 1998
Exhibit 10.3	MidCarolina Bank Director Stock Option Plan, incorporated herein by reference to Exhibit 6(iii) to the Form 10-SB filed with the FDIC on April 30, 1998
Exhibit 10.4	Land Lease dated October 15, 1997 between the Bank and Crescent Center Associates, incorporated herein by reference to Exhibit 10(iv) to the Form 10-KSB for the fiscal year ended December 31, 1998
Exhibit 10.5	Lease dated June 27, 2000 between the Bank and Cum-Park Plaza, LLC incorporated herein by reference to Exhibit 10(v) to the Form 10-KSB for the fiscal year ended December 31, 2000.
Exhibit 10.6	Omnibus Stock Ownership and Long-Term Incentive Plan incorporated herein by reference to Exhibit 10(vi) to the Form 10-KSB for the fiscal year ended December 31, 2003
Exhibit 10.7	Form of stock option award agreements for incentive stock options and nonqualified stock options granted under the Omnibus Stock Ownership and Long-Term Incentive Plan (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.8	December 22, 2005 Amendment of Stock Option Agreements granted under the MidCarolina Bank Employee Stock Option Plan (incorporated by reference to Exhibit 99.2 of the Form 8-K Current Report filed on December 27, 2005)
Exhibit 10.9	December 22, 2005 Amendment of Stock Option Agreement, with resale restrictions, granted under the MidCarolina Bank Employee Stock Option Plan (incorporated by reference to Exhibit 99.3 of the Form 8-K Current Report filed on December 27, 2005)
Exhibit 10.10	Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr. (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.11	Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday Jr. (incorporated by reference to the Form 10-KSB filed on March 29, 2006)

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Exhibit 10.12	Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.13	Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.14	Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr. (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.15	Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday jr. (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.16	Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.17	Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.18	Severance Agreement dated March 11, 2005 between MidCarolina Bank and Charles T. Canaday Jr. (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.19	Severance Agreement dated March 11, 2005 between MidCarolina Bank and Christopher B. Redcay (incorporated by reference to the Form 10-KSB filed on March 29, 2006)
Exhibit 10.20	Severance Agreement between MidCarolina Bank and R. Craig Patterson (incorporated by reference to Exhibit 99.1 of the Form 8-K Current Report filed on March 8, 2006)
Exhibit 10.21	Indemnification Agreement with directors (incorporated by reference to Exhibit 99.1 of the Form 8-K Current Report filed on December 27, 2005)
Exhibit 11	Statement Regarding Computation of Per Share Earnings. See Note C to the Consolidated Financial Statement

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Exhibit 14	Code of Ethics incorporated herein by reference to Exhibit 14 to the Form 10-KSB for the fiscal year ended December 31, 2003.
Exhibit 31.1	Rule 13a-14(a)/15d-14(a) Certification by Chief Executive Officer
Exhibit 31.2	Rule 13a-14(a)/15d-14(a) Certification by Chief Financial Officer
Exhibit 32	Section 1350 Certifications

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SIGNATURES

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

	MIDCAROLINA FINANCIAL CORPORATION
Date: May 12, 2006	By:	/s/ Randolph J. Cary, Jr.
		Randolph J. Cary, Jr.
		President and Chief Executive Officer
Date: May 12, 2006	By:	/s/ Christopher B. Redcay
		Christopher B. Redcay
		Chief Financial Officer

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