Atlantic Southern Financial (ASFN) 10-Q 2006 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 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 June 30, 2006
o	Transition report under Section 13 or 15 (d) of the Exchange Act

For the transition period from                  to

Commission File Number  000-51112

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

(Exact Name of Small Business Issuer as Specified in Its Charter)

GEORGIA	20-2118147
(State or Other Jurisdiction of	(I.R.S. Employer
Incorporation or Organization)	Identification No.)

4077 Forsyth Road

Macon, Georgia 31210

(Address of Principal Executive Offices)

(478) 757-8181

(Issuer’s Telephone Number, Including Area Code)

Not Applicable

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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.

Yes    x         No  o

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

Large accelerated filer o Accelerated filer o Non-accelerated filer x

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

Yes   o        No   x

APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date: Common Stock $5 par value, 3,304,052 shares outstanding at August 1, 2006

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

INDEX

PART I:	FINANCIAL INFORMATION
ITEM 1.	FINANCIAL STATEMENTS
The following consolidated financial statements are provided for Atlantic Southern Financial Group, Inc.
	Consolidated Balance Sheets — June 30, 2006 (unaudited) and December 31, 2005 (audited).	2
	Consolidated Statements of Earnings (unaudited) — For the Three Months and Six Months Ended June 30, 2006 and 2005.	3
	Consolidated Statements of Comprehensive Income (unaudited) — For the Three Months and Six Months Ended June 30, 2006 and 2005.	4
	Consolidated Statements of Cash Flows (unaudited) — For the Six Months Ended June 30, 2006 and 2005.	5
	Notes to Consolidated Financial Statements (unaudited)	6
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	8
ITEM 3.	Quantitative and Qualitative Disclosures About Market Risk	14
ITEM 4.	Controls and Procedures	15
PART II:	OTHER INFORMATION	16

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

Consolidated Balance Sheets

June 30, 2006 (Unaudited) and December 31, 2005 (Audited)

	As of
	June 30,			December 31,
	2006			2005
Assets
Cash and due from banks	$	10,754,255		$	4,202,851
Interest-bearing deposits in other banks	121,345			129,543
Federal funds sold	9,736,000			1,450,000
Total cash and cash equivalents	20,611,600			5,782,394
Securities available for sale, at fair value	43,079,838			34,525,648
Federal Home Loan Bank stock, restricted, at cost	1,775,700			1,255,700
Loans held for sale	1,628,117			1,226,353
Loans, net of unearned income	407,770,705			331,440,956
Less - allowance for loan losses	(5,139,841		)	(4,150,000		)
Loans, net	402,630,864			327,290,956
Bank premises and equipment, net	11,339,106			9,140,566
Accrued interest receivable	3,960,832			2,709,386
Cash surrender value of life insurance	4,182,529			4,100,663
Other assets	3,271,761			2,678,818
Total Assets	$	492,480,347		$	388,710,484
Liabilities and Shareholders’ Equity
Deposits:
Non-interest bearing	$	25,470,173		$	21,599,726
Interest bearing	383,737,809			312,975,398
Total deposits	409,207,982			334,575,124
FHLB borrowings	22,200,000			16,200,000
Junior subordinated debentures	10,310,000			10,310,000
Accrued interest payable	1,729,178			1,648,664
Accrued expenses and other liabilities	869,088			590,397
Total liabilities	444,316,248			363,324,185
Shareholders’ Equity:
Preferred stock, authorized 2,000,000 shares, no shares outstanding	—			—
Common stock, $5 par value, authorized 10,000,000 shares, issued and outstanding 3,304,052 in 2006 and 2,604,052 in 2005	16,520,260			13,020,260
Paid-in capital surplus	29,345,181			12,047,356
Retained earnings	3,319,403			898,117
Accumulated other comprehensive income (loss)	(1,020,745		)	(579,434		)
Total shareholders’ equity	48,164,099			25,386,299
Total Liabilities and Shareholders’ Equity	$	492,480,347		$	388,710,484

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

2

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

Consolidated Statements of Earnings

For the Three Months and Six Months Ended June 30, 2006 and 2005

(Unaudited)

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2006		2005		2006			2005
Interest and Dividend Income:
Interest and fees on loans	$	8,326,618	$	4,732,648	$	15,466,874		$	8,649,342
Interest on securities:
Taxable income	347,548		184,322		652,874			340,111
Non-taxable income	54,004		30,274		100,791			50,016
Income on federal funds sold	82,486		28,877		131,280			50,058
Other interest and dividend income	27,393		14,943		47,814			24,427
Total interest and dividend income	8,838,049		4,991,064		16,399,633			9,113,954
Interest Expense:
Deposits	3,700,200		1,684,387		6,799,044			2,983,003
FHLB borrowings	254,723		136,839		427,224			243,715
Federal funds purchased	28,581		9,358		56,150			18,531
Junior subordinated debentures	185,108		94,543		353,708			94,543
Total interest expense	4,168,612		1,925,127		7,636,126			3,339,792
Net interest income before provision for loan losses	4,669,437		3,065,937		8,763,507			5,774,162
Provision for loan losses	483,000		345,000		921,000			840,000
Net interest income after provision for loan losses	4,186,437		2,720,937		7,842,507			4,934,162
Noninterest Income:
Service charges on deposit accounts	112,565		100,694		224,299			186,086
Other service charges, commissions and fees	26,049		18,275		49,392			33,173
Gain (loss) on sales / calls of investment securities	—		—		(9,753		)	—
Gain (loss) on sale of other assets	2,895		—		2,895			—
Income from mortgage fees	162,064		76,706		280,329			127,787
Other income	134,101		33,499		255,284			60,340
Total noninterest income	437,674		229,174		802,446			407,386
Noninterest Expense:
Salaries	944,874		589,634		1,744,634			1,102,247
Employee benefits	353,873		197,294		703,060			438,882
Occupancy expense	192,893		95,018		382,186			164,876
Equipment rental and depreciation of equipment	111,697		66,322		195,681			128,713
Other expenses	886,754		633,100		1,802,950			1,157,631
Total noninterest expense	2,490,091		1,581,368		4,828,511			2,992,349
Earnings Before Income Taxes	2,134,020		1,368,743		3,816,442			2,349,199
Provision for income taxes	773,088		498,847		1,395,156			856,623
Net Earnings	$	1,360,932	$	869,896	$	2,421,286		$	1,492,576
Earnings per share:
Basic	$	0.48	$	0.33	$	0.89		$	0.57
Diluted	$	0.43	$	0.31	$	0.79		$	0.53

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

3

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

Consolidated Statements of Comprehensive Income

For the Three Months and Six Months Ended June 30, 2006 and 2005

(Unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
	2006			2005			2006			2005
Net earnings	$	1,360,932		$	869,896		$	2,421,286		$	1,492,576
Other comprehensive loss:
Unrealized holding losses on investment securities available for sale	(508,300		)	(23,728		)	(608,271		)	(77,120		)
Unrealized holding losses on derivative financial instruments classified as cash flow hedges	(35,635		)	—			(70,135		)	—
Reclassification adjustment for losses realized in net earnings	—			—			9,753			—
Total other comprehensive loss, before tax	(543,935		)	(23,728		)	(668,653		)	(77,120		)
Income taxes related to other comprehensive income:
Unrealized holding losses on investment	172,822			8,068			206,812			26,221
securities available for sale
Unrealized holding losses on derivative financial instruments classified as cash flow hedges	12,116			—			23,846			—
Reclassification adjustment for losses realized in net earnings	—			—			(3,316		)	—
Total income taxes related to other comprehensive loss	184,938			8,068			227,342			26,221
Total other comprehensive loss, net of tax	(358,997		)	(15,660		)	(441,311		)	(50,899		)
Total comprehensive income	$	1,001,935		$	854,236		$	1,979,975		$	1,441,677

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

4

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

Consolidated Statements of Cash Flows

For the Six Months Ended June 30, 2006 and 2005

(Unaudited)

	Six Months Ended June 30,
	2006			2005
Cash Flows from Operating Activities:
Net earnings	$	2,421,286		$	1,492,576
Adjustments to reconcile net earnings to net cash provided by operating activities:
Provision for loan losses	921,000			840,000
Depreciation	250,432			157,866
Net amortization of securities	13,129			29,388
(Gain) Loss on sales of other assets	(2,895		)	—
(Gain) Loss on sales / calls of investment securities	9,753			—
Loans held for sale	(401,764		)	63,901
Change in cash surrender value of life insurance	(81,866		)	(4,018,796		)
Changes in accrued income and other assets	(1,684,287		)	(1,281,175		)
Changes in accrued expenses and other liabilities	359,205			598,041
Net cash provided by (used in) operating activities	1,803,993			(2,118,199		)
Cash Flows from Investing Activities:
Net change in loans to customers	(76,260,908		)	(56,066,715		)
Purchase of available for sale securities	(10,645,584		)	(6,915,946		)
Sales of securities available for sale	491,415			—
Proceeds from maturities/calls of available for sale securities	—			500,000
Purchase of mortgage backed securities	—			(2,511,751		)
Proceeds from paydowns on mortgage-backed securities	978,579			797,053
Purchase of FHLB stock	(520,000		)	(69,100		)
Property and equipment expenditures	(2,448,972		)	(1,293,676		)
Net cash used in investing activities	(88,405,470		)	(65,560,135		)
Cash Flows from Financing Activities:
Net change in deposits	74,632,858			64,208,169
FHLB borrowings	6,000,000			(3,000,000		)
Proceeds from junior subordinated debentures	—			10,310,000
Proceeds from issuance of common stock, net of issuance cost of $202,175	20,797,825			—
Net cash provided by financing activities	101,430,683			71,518,169
Net Change in Cash and Cash Equivalents	14,829,206			3,839,835
Cash and Cash Equivalents, Beginning of Year	5,782,394			9,831,001
Cash and Cash Equivalents, End of Quarter	$	20,611,600		$	13,670,836

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

5

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.
Notes to Consolidated Financial Statements
(Unaudited)

(1) Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and changes in financial position in conformity with generally accepted accounting principles.  The interim financial statements furnished reflect all adjustments, which are, in the opinion of management, necessary to a fair statement of the results for the interim periods presented.  The interim consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2005.  Certain reclassifications have been made to the 2005 financial statement presentation to correspond to the current year’s format.

(2)Stock-Based Compensation

The Company sponsors stock-based compensation plans. The Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004) “Share-Based Payment” (SFAS No. 123(R)) on the required effective date of January 1, 2006.  Prior to January 1, 2006, the Company accounted for these plans under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees”, and related Interpretations and used the minimum value method of measuring the fair value of options granted for the proforma disclosures under SFAS No. 123.  As provided in SFAS No. 123(R), the Company will continue to account for the options outstanding at December 31, 2005, using the measurement principals of APB No. 25 and the proforma disclosures under SFAS 123(R).  All stock awards granted subsequent to January 1, 2006 will use the fair value measurements in accordance with SFAS 123(R), which will require the Company to recognize compensation expense upon the grant date of the option and over any vesting period.

Given the application of the minimum value method for measuring the fair value of the options, no stock-based employee compensation cost is reflected in net earnings for the three months and six months ended June 30, 2006 and 2005.  The following table illustrates the effect on net earnings and earnings per share as if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” to stock-based employee compensation for the three months and six months ended June 30, 2006 and 2005.

	For the three months ended June 30,						For the six months ended June 30,
	2006			2005			2006			2005
Net earnings, as reported	$	1,360,932		$	869,896		$	2,421,286		$	1,492,576
Proforma expensing based on options valuedapplying the minimum value method	(13,390		)	(13,390		)	(26,780		)	(26,780		)
Related tax benefit	5,356			5,356			10,712			10,712
Pro forma net earnings	$	1,352,898		$	861,862		$	2,405,218		$	1,476,508
Earnings per share:
Basic, as reported	$	0.48		$	0.33		$	0.89		$	0.57
Basic, pro forma	$	0.47		$	0.33		$	0.88		$	0.57
Diluted, as reported	$	0.43		$	0.31		$	0.79		$	0.53
Diluted, pro forma	$	0.42		$	0.31		$	0.79		$	0.53

6

(3) Earnings Per Share

Basic earnings per share are based on the weighted average number of common shares outstanding during the period while the effects of potential shares outstanding during the period are included in diluted earnings per share.

The reconciliation of the amounts used in the computation of both “basic earnings per share” and “diluted earnings per share” for each period is presented as follows:

			Average
	Net		Common	Per Share
For the Three Months Ended June 30, 2006	Earnings		Shares	Amount
Basic earnings per share	$	1,360,932	2,854,144	0.48
Effect of dilutive common stock issuances:
Stock options	—		334,282	(0.05	)
Diluted earnings per share	$	1,360,932	3,188,426	0.43

			Average
	Net		Common	Per Share
For the Three Months Ended June 30, 2005	Earnings		Shares	Amount
Basic earnings per share	$	869,896	2,604,052	0.33
Effect of dilutive common stock issuances:
Stock options	—		190,875	(0.02	)
Diluted earnings per share	$	869,896	2,794,927	0.31

			Average
	Net		Common	Per Share
For the Six Months Ended June 30, 2006	Earnings		Shares	Amount
Basic earnings per share	$	2,421,286	2,728,407	0.89
Effect of dilutive common stock issuances:
Stock options	—		330,270	(0.10	)
Diluted earnings per share	$	2,421,286	3,058,677	0.79

			Average
	Net		Common	Per Share
For the Six Months Ended June 30, 2005	Earnings		Shares	Amount
Basic earnings per share	$	1,492,576	2,604,052	0.57
Effect of dilutive common stock issuances:
Stock options	—		190,875	(0.04	)
Diluted earnings per share	$	1,492,576	2,794,927	0.53

(4) Offering of Common Stock

On June 12, 2006, the Company closed its public offering of a total of 700,000 shares of common stock at a price of $30.00 per share. The Company received net proceeds of $20.8 million after deducting offering expenses. The Company plans to use the proceeds of the offering to fund future growth, including opening de novo branches and the acquisitions of existing banks, purchasing additional land in south Macon, funding future loan demand and ensuring sufficient risk-based capital and liquidity for continued growth.

(5) Subsequent Event

On July 27, 2006, Atlantic Southern Financial Group, Inc. announced the signing of a definitive agreement to acquire Sapelo Bancshares, Inc. (“Sapelo”) and its subsidiary, Sapelo National Bank, a community bank headquartered in Darien, Georgia, with approximately $61 million in assets, $49 million in loans, $50 million in deposits and $7 million in stockholders’ equity as of June 30, 2006. Sapelo National Bank operates four full service banking offices in McIntosh and Glynn Counties. The transaction is valued at approximately $15.4 million and is expected to be completed during the fourth quarter of 2006, subject to regulatory approval, the approval of Sapelo shareholders and other customary closing conditions.

7

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
For Each of the Six Months in the Period Ended
June 30, 2006 and 2005

The following discussion of financial condition as of June 30, 2006 compared to December 31, 2005, and the results of operations for the six months ended June 30, 2006 compared to the six months ended June 30, 2005 should be read in conjunction with the condensed financial statements and accompanying footnotes appearing in this report.

Advisory Note Regarding Forward-Looking Statements

The statements contained in this report on Form 10-Q that are not historical facts are forward-looking statements subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995. We caution readers of this report that such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of us to be materially different from those expressed or implied by such forward-looking statements. Although we believe that our expectations of future performance is based on reasonable assumptions within the bounds of our knowledge of our business and operations, there can be no assurance that actual results will not differ materially from our expectations.

Factors which could cause actual results to differ from expectations include, among other things:

·the challenges, costs and complications associated with the continued development of our branches;

·the potential that loan charge-offs may exceed the allowance for loan losses or that such allowance will be increased as a result of factors beyond the control of us;

·our dependence on senior management;

·competition from existing financial institutions operating in our market areas as well as the entry into such areas of new competitors with greater resources, broader branch networks and more comprehensive services;

·adverse conditions in the stock market, the public debt market, and other capital markets (including changes in interest rate conditions);

·changes in deposit rates, the net interest margin, and funding sources;

·inflation, interest rate, market, and monetary fluctuations;

·risks inherent in making loans including repayment risks and value of collateral;

·the strength of the United States economy in general and the strength of the local economies in which we conduct operations may be different than expected resulting in, among other things, a deterioration in credit quality or a reduced demand for credit, including the resultant effect on our loan portfolio and allowance for loan losses;

·fluctuations in consumer spending and saving habits;

·the demand for our products and services;

·technological changes;

·the challenges and uncertainties in the implementation of our expansion and development strategies;

·the ability to increase market share;

·the adequacy of expense projections and estimates of impairment loss;

·the impact of changes in accounting policies by the Securities and Exchange Commission;

·unanticipated regulatory or judicial proceedings;

·the potential negative effects of future legislation affecting financial institutions (including without limitation laws concerning taxes, banking, securities, and insurance);

·the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System;

·the timely development and acceptance of products and services, including products and services offered through alternative delivery channels such as the Internet;

·the impact on our business, as well as on the risks set forth above, of various domestic or international military or terrorist activities or conflicts;

·other factors described in this report and in other reports we have filed with the Securities and Exchange Commission; and

·Our success at managing the risks involved in the foregoing.

8

Forward-looking statements speak only as of the date on which they are made. We undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made to reflect the occurrence of unanticipated events.

Executive Summary and Recent Developments

The Company’s total assets at June 30, 2006, were approximately $492,480,000, which represented an increase of approximately $103,770,000 or 27% from December 31, 2005. Net earnings increased 62% for the six months ended June 30, 2006 to $2,421,286 or $0.79 per diluted share compared to $1,492,576 or $0.53 per diluted share for the six months ended June 30, 2005.

On June 12, 2006, the Company closed its public offering of a total of 700,000 shares of common stock at a price of $30.00 per share. The Company received net proceeds of $20.8 million after deducting offering expenses. The Company plans to use the proceeds of the offering to fund future growth, including opening de novo branches and the acquisitions of existing banks, purchasing additional land in south Macon, funding future loan demand and ensuring sufficient risk-based capital and liquidity for continued growth.

On July 27, 2006, the Company announced the signing of a definitive agreement to acquire Sapelo Bancshares, Inc. and its subsidiary, Sapelo National Bank, a community bank headquartered in Darien, Georgia, with approximately $61 million in assets, $49 million in loans, $50 million in deposits and $7 million in stockholders’ equity as of June 30, 2006. Sapelo National Bank operates four full service banking offices in McIntosh and Glynn Counties. Under the terms of the merger agreement, Sapelo Bancshares shareholders can elect to receive $63.00 per share cash, or 2.10 shares of Atlantic Southern Financial Group, Inc. common stock or a combination of both for each share of Sapelo Bancshares Inc. common stock. However, the aggregate merger consideration is fixed at approximately 60 percent stock and 40 percent cash. The transaction is valued at approximately $15.4 million and is expected to be completed during the fourth quarter of 2006, subject to regulatory approval, the approval of Sapelo shareholders and other customary closing conditions.

Financial Condition

The composition of assets and liabilities for the Company is as follows:

	June 30,			December 31,
	2006			2005			$ Change		% Change
Assets:
Cash and due from banks	$	10,754,255		$	4,202,851		$	6,551,404	155.88	%
Federal funds sold	9,736,000			1,450,000			8,286,000		571.45	%
Securities available for sale	43,079,838			34,525,648			8,554,190		24.78	%
Loans, net of unearned income	407,770,705			331,440,956			76,329,749		23.03	%
Total assets	492,480,347			388,710,484			103,769,863		26.70	%
Liabilities:
Deposits	409,207,982			334,575,124			74,632,858		22.31	%
FHLB borrowings	22,200,000			16,200,000			6,000,000		37.04	%
Junior subordinated debentures	10,310,000			10,310,000			—		—
Loan to Deposit Ratio	99.65		%	99.06		%

The most significant change in the composition of assets was the increase in loans due to continued growth of the Company. The most significant change in the composition of liabilities was the increase in deposits to fund loan growth.

9

Asset Quality

There were no material nonperforming assets at June 30, 2006 and at December 31, 2005.

Results of Operations

The following table shows the significant components of net earnings:

	Six Months Ended
	June 30,
	2006		2005		$ Change		% Change
Interest Income	$	16,399,633	$	9,113,954	$	7,285,679	79.94	%
Interest Expense	7,636,126		3,339,792		4,296,334		128.64	%
Net Interest Income	8,763,507		5,774,162		2,989,345		51.77	%
Provision for Loan Losses	921,000		840,000		81,000		9.64	%
Net Earnings	2,421,286		1,492,576		928,710		62.22	%
Net Earnings Per Diluted Share	$	0.79	$	0.53	0.26		49.06	%

General

The Company’s results of operations are determined by its ability to effectively manage interest income and expense, to minimize loan and investment losses, to generate noninterest income and to control noninterest expense. Since interest rates are determined by market forces and economic conditions beyond the control of the Company, the ability to generate interest income is dependent upon the Bank’s ability to obtain an adequate spread between the rate earned on earning assets and the rate paid on interest-bearing liabilities.

Net Interest Income

The Company’s primary source of income is interest income from loans and investment securities. Its profitability depends largely on net interest income, which is the difference between the interest received on interest-earning assets and the interest paid on deposits, borrowings, and other interest-bearing liabilities.

For the six months ended June 30, 2006, total interest and dividend income increased $7,286,000 or 80% when compared to the six months ended June 30, 2005. Total interest expense for the six months ended June 30, 2006 increased 4,296,000 or 129% when compared to the six months ended June 30, 2005. Net interest income increased 2,989,000 or 52% for the six months ended June 30, 2006 compared to June 30, 2005. Net margin for the six-months ended June 30, 2006, increased to 4.47%, from 4.13% in the six-months ended June 30, 2005. In the short term, due to a positive gap position and an asset sensitive balance sheet, the Bank will experience an increase in net interest income during a rising rate environment.

Total interest and dividend income for the second quarter of 2006 increased $3,847,000 or 77% when compared to the second quarter of 2005 primarily due to increases in loan interest and fees on loans. This increase is partially the result of the average loan portfolio for the second quarter of 2006 increasing approximately $111 million or 40% when compared to average loan portfolio for the second quarter of 2005. Additionally, the average yield on loans increased during the second quarter of 2006 to 8.63% compared to an average yield of 6.87 % for the second quarter of 2005.

Total interest expense for the second quarter of 2006 increased $2,244,000 or 117%, when compared to the second quarter of 2005. Two factors impact interest expense: average balances of deposit and borrowing portfolios and average rates paid on each. Average deposit balances increased approximately $121 million when comparing second quarter of 2006 to second quarter 2005. The increase of $121 million includes approximately $7 million in non-interest bearing balances in regular demand deposit accounts. The average rate paid on the deposit portfolios for the second quarter of 2006 increased to 4.09% from 2.72% when compared to second quarter of 2005. Average borrowing balances increased approximately $5 million when comparing second quarter of 2006 to second quarter of

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2005. Average interest rates paid on borrowings was 4.80% for the second quarter of 2006 compared to 3.18% for the second quarter of 2005.

Net interest income increased $1,604,000 or 52%, for the second quarter of 2006 as compared to the second quarter of 2005 as a result of the items discussed above.

Provision for Loan Losses

The provision for loan losses for the six months ended June 30, 2006, was $921,000 compared to $840,000 for the same period of 2006 as loan growth for the respective periods was comparable and charge-offs for each period were minimal.

Non-interest Income

Composition of other noninterest income is as follows:

	Six Months Ended
	June 30,
	2006			2005		$ Change			% Change
Service charges on deposit accounts	$	224,299		$	186,086	$	38,213		20.54	%
Other service charges, commissions and fees	49,392			33,173		16,219			48.89	%
Gain on sales / calls of investment securities	(9,753		)	—		(9,753		)	-100.00	%
Gain (loss) on sale of other assets	2,895			—		2,895			100.00	%
Income from mortgage fees	280,329			127,787		152,542			119.37	%
Other income	255,284			60,340		194,944			323.08	%
Total noninterest income	$	802,446		$	407,386	$	395,060		96.97	%

	Three Months Ended
	June 30,
	2006		2005		$ Change		% Change
Service charges on deposit accounts	$	112,565	$	100,694	$	11,871	11.79	%
Other service charges, commissions and fees	26,049		18,275		7,774		42.54	%
Gain (loss) on sale of other assets	2,895		—		2,895		100.00	%
Income from mortgage fees	162,064		76,706		85,358		111.28	%
Other income	134,101		33,499		100,602		300.31	%
Total noninterest income	$	437,674	$	229,174	$	208,500	90.98	%

Service charges on deposit accounts are evaluated against service charges from other banks in the local market and against the Bank’s own cost structure in providing the deposit services. This income should grow with the growth in the Bank’s demand deposit account base. The increase in mortgage fees is primarily due to the mortgage loan brokerage activity which was started in late 2004 and the volume of mortgages originated in 2006 was larger than the same period of 2005. The two most significant changes in other income were $109,533 of rental income from a portion of a Bank owned facility and $86,132 of income from the increase in cash surrender value of life insurance on bank owned life insurance (“BOLI”) policies purchased in the second quarter of 2005.

Non-interest Expense

Composition of other noninterest expense is as follows:

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	Six Months Ended
	June 30,
	2006		2005		$ Change		% Change
Salaries	$	1,744,634	$	1,102,247	$	642,387	58.28	%
Employee benefits	703,060		438,882		264,178		60.19	%
Occupancy expense	382,186		164,876		217,310		131.80	%
Equipment rental and depreciation of equipment	195,681		128,713		66,968		52.03	%
Other expenses	1,802,950		1,157,631		645,319		55.74	%
Total noninterest expense	$	4,828,511	$	2,992,349	$	1,836,162	61.36	%

	Three Months Ended
	June 30,
	2006		2005		$ Change		% Change
Salaries	$	944,874	$	589,634	$	355,240	60.25	%
Employee benefits	353,873		197,294		156,579		79.36	%
Occupancy expense	192,893		95,018		97,875		103.01	%
Equipment rental and depreciation of equipment	111,697		66,322		45,375		68.42	%
Other expenses	886,754		633,100		253,654		40.07	%
Total noninterest expense	$	2,490,091	$	1,581,368	$	908,723	57.46	%

The increases in noninterest expenses are primarily due to the growth of the bank.  The most significant increases in the second quarter of 2006 are increases in salaries and employee benefits.  The increase in salaries and employees benefits represents normal increases in salaries and an increase in the number of employees.  At June 30, 2006, the number of full-time equivalent employees was 77 compared to 54 at June 30, 2005.  The increase in the number of full-time equivalent employees is directly related to the growth of the bank and the hiring for one new branch and one loan production center.  The bank operates from seven facilities as of June 30, 2006 compared to four facilities as of June 2005.  The increases in other expenses are not attributable to any one particular item, but represent increases related to physical facility expansion.

Income Tax Expense

Income tax expense expressed as a percentage of earnings before income taxes was 36.56% and 36.46% for the six months ended June 30, 2006 and 2005, respectively.

Liquidity

Liquidity management involves the matching of the cash flow requirements of customers, either depositors withdrawing funds or borrowers needing loans, and the ability of the Company to meet those requirements.

The Company’s liquidity program is designed and intended to provide guidance in funding the credit and investment activities of the Company while at the same time ensuring that the deposit obligations of the Company are met on a timely basis. In order to permit active and timely management of assets and liabilities, these accounts are monitored regularly in regard to volume, mix, and maturity.

The Company’s liquidity position depends primarily upon the liquidity of its assets relative to its need to respond to short-term demand for funds caused by withdrawals from deposit accounts and loan funding commitments. Primary sources of liquidity are scheduled repayments on the Company’s loans and interest on and maturities of its investment securities. Sales of investment securities available for sale represent another source of liquidity to the Company. The Company may also utilize its cash and due from banks and federal funds sold to meet liquidity requirements as needed.

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The Company also has the ability, on a short-term basis, to purchase federal funds from other financial institutions up to $21,400,000. At June 30, 2006, the Company had no federal funds purchased. The Company has a total available line of $26,186,000, subject to available collateral, from the Federal Home Loan Bank. The Company has $22.2 million in advances on this line at June 30, 2006.

The Bank’s liquidity policy requires that the ratio of cash and certain short-term investments to net withdrawable deposit accounts be at least 10%. The Bank’s liquidity ratios at June 30, 2006 and 2005 were 15.12% and 14.18%, respectively.

Capital

The following table summarizes the capital ratios of the Company and the Bank:

	June 30,		December 31,
	2006		2005
Tier 1 Leverage Ratio - Bank	12.72	%	9.26	%
Tier 1 Leverage Ratio - Consolidated	12.92	%	8.88	%
Tier 1 Risk Weighted Capital Ratio — Bank	13.81	%	10.65	%
Tier 1 Risk Weighted Capital Ratio — Consolidated	14.02	%	10.21	%
Risk Weighted Total Capital Ratio — Bank	15.03	%	11.88	%
Risk Weighted Total Capital Ratio — Consolidated	15.23	%	11.89	%

The capital of the Company exceeded all prescribed regulatory capital guidelines.  Regulations require that the most highly rated banks maintain a Tier 1 leverage ratio of 3% plus an additional cushion of at least 1 to 2 percentage points.  Tier 1 capital consists of common shareholders’ equity, less certain intangibles.  Regulations require that the Bank maintain a minimum total risk weighted capital ratio of 8%, with one-half of this amount, or 4%, made up of Tier 1 capital.

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ATLANTIC SOUTHER FINANCIAL GROUP, INC.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
For the Six months Ended June 30, 2006

As of June 30, 2006, there were no substantial changes in the composition of the Company’s market-sensitive assets and liabilities or their related market values from that reported as of December 31, 2005. The foregoing disclosures related to the market risk of the Company should be read in conjunction with the Company’s audited consolidated financial statements, related notes and management’s discussion and analysis of financial condition and results of operations for the year ended December 31, 2005 included in the Company’s 2005 Annual Report on Form 10-K.

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ATLANTIC SOUTHER FINANCIAL GROUP, INC.
Item 4. Controls and Procedures
For the Six months Ended June 30, 2006

The Company’s management, including the Chief Executive Officer and Chief Financial Officer, supervised and participated in an evaluation of the effectiveness of its disclosure controls and procedures (as defined in federal securities rules) as of the end of the period covered by this report.  Based on, and as of the date of, that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were effective in accumulating and communicating information to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures of that information under the Securities and Exchange Commission’s rules and forms and that the Company’s disclosure controls and procedures are designed to ensure that the information required to be disclosed in reports that are filed or submitted by the Company under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

During the second quarter of 2006, there were no significant changes in the Company’s internal control over financial reporting or, to the Company’s knowledge, in other factors that could significantly affect those internal controls subsequent to the date the Company carried out its evaluation that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting, and there have been no corrective actions with respect to significant deficiencies or material weaknesses.

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ATLANTIC SOUTHER FINANCIAL GROUP, INC.
Part II. Other Information
For the Six months Ended June 30, 2006

PART II: OTHER INFORMATION:

Item 1. Legal Proceedings

                There are no material legal proceedings to which the Company is a party or of which their property is the subject.

Item 1A. Risk Factors

                In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2005, which could materially affect our business, financial condition or future results.  The risks described in our Annual Report on Form 10-K are not the only risks we face.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and / or operation results.

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

                None

Item 3. Defaults Upon Senior Securities

                Not Applicable

Item 4. Submission of Matters to a Vote of Security-Holders

The regular annual meeting of the shareholders of the Company was held on April 25, 2006.

At the Annual Meeting, the shareholders elected the following Class I directors to serve for three-year terms or until their successors are duly qualified and elected.  The following table sets forth the number of votes cast and withheld with respect to each nominated director.

Name	Votes For	Votes Withheld
Peter R. Cates	1,615,209	4,500
Laudis H. Lanford	1,615,209	4,500
J. Russell Lipford, Jr.	1,615,209	4,500
Hugh F. Smisson, III	1,615,209	4,500
Donald L. Moore, Jr.	1,615,209	4,500

Item 5. Other Information

None

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Item 6. Exhibits
	(a)	Exhibits:
	31.1	Certification of Chief Executive Officer Pursuant to Rule 13a-15 under the Securities Exchange Act of 1934, as amended
	31.2	Certification of Chief Financial Officer Pursuant to Rule 13a-15 under the Securities Exchange Act of 1934, as amended
	32	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

SIGNATURES

In accordance with the requirements of the Securities Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

/s/ Mark A. Stevens

Mark A. Stevens
President and Chief Executive Officer

Date: August 10, 2006

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