Atlantic Southern Financial (ASFN) 10-Q 2006 Q3 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 September 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 November 13, 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.

		PAGE
	Consolidated Balance Sheets – September 30, 2006 (unaudited) and December 31, 2005 (audited)	2
	Consolidated Statements of Earnings (unaudited) – For the Three Months and Nine Months Ended September 30, 2006 and 2005	3
	Consolidated Statements of Comprehensive Income (unaudited) – For the Three Months and Nine Months Ended September 30, 2006 and 2005	4
	Consolidated Statements of Cash Flows (unaudited) – For the Nine Months Ended September 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	9
ITEM 3.	Quantitative and Qualitative Disclosures About Market Risk	17
ITEM 4.	Controls and Procedures	18
PART II:	OTHER INFORMATION	19

ATLANTIC SOUTHERN FINANCIAL GROUP, Inc.

Consolidated Balance Sheets

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

	As of
	September 30,			December 31,
	2006			2005
Assets
Cash and due from banks	$	6,250,206		$	4,202,851
Interest-bearing deposits in other banks	79,676			129,543
Federal funds sold	21,959,000			1,450,000
Total cash and cash equivalents	28,288,882			5,782,394
Securities available for sale, at fair value	48,471,859			34,525,648
Federal Home Loan Bank stock, restricted, at cost	2,045,700			1,255,700
Loans held for sale	3,059,035			1,226,353
Loans, net of unearned income	446,960,178			331,440,956
Less - allowance for loan losses	(5,617,313		)	(4,150,000		)
Loans, net	441,342,865			327,290,956
Bank premises and equipment, net	11,567,152			9,140,566
Accrued interest receivable	4,375,827			2,709,386
Cash surrender value of life insurance	4,223,462			4,100,663
Other assets	3,182,270			2,678,818
Total Assets	$	546,557,052		$	388,710,484
Liabilities and Shareholders’ Equity
Deposits:
Non-interest bearing	$	25,454,199		$	21,599,726
Interest bearing	429,136,796			312,975,398
Total deposits	454,590,995			334,575,124
FHLB borrowings	28,200,000			16,200,000
Junior subordinated debentures	10,310,000			10,310,000
Accrued interest payable	2,386,878			1,648,664
Accrued expenses and other liabilities	865,116			590,397
Total liabilities	496,352,989			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	29,336,044			12,047,356
Retained earnings	4,997,434			898,117
Accumulated other comprehensive income (loss)	(649,675		)	(579,434		)
Total shareholders’ equity	50,204,063			25,386,299
Total Liabilities and Shareholders’ Equity	$	546,557,052		$	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 Nine Months Ended September 30, 2006 and 2005

(Unaudited)

	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2006			2005		2006			2005
Interest and Dividend Income:
Interest and fees on loans	$	9,587,933		$	5,538,806	$	25,054,807		$	14,188,148
Interest on securities:
Taxable income	419,658			225,691		1,072,532			565,802
Non-taxable income	63,208			36,095		163,999			86,111
Income on federal funds sold	85,696			31,634		216,976			81,692
Other interest and dividend income	31,227			19,741		79,041			44,168
Total interest and dividend income	10,187,722			5,851,967		26,587,355			14,965,921
Interest Expense:
Deposits	4,461,486			2,084,508		11,260,530			5,067,511
FHLB borrowings	313,418			145,742		740,642			389,457
Federal funds purchased	9,270			17,449		65,420			35,980
Junior subordinated debentures	194,691			146,779		548,399			241,322
Total interest expense	4,978,865			2,394,478		12,614,991			5,734,270
Net interest income before provision for loan losses	5,208,857			3,457,489		13,972,364			9,231,651
Provision for loan losses	468,000			247,000		1,389,000			1,087,000
Net interest income after provision for loan losses	4,740,857			3,210,489		12,583,364			8,144,651
Noninterest Income:
Service charges on deposit accounts	127,016			106,880		351,315			292,966
Other service charges, commissions and fees	26,205			19,922		75,597			53,095
Loss on sales / calls of investment securities	—			—		(9,753		)	—
Gain (loss) on sale of other assets	(1,022		)	—		1,873			—
Mortgage origination fees	154,317			159,936		434,646			287,723
Other income	92,493			66,080		347,777			126,420
Total noninterest income	399,009			352,818		1,201,455			760,204
Noninterest Expense:
Salaries	1,050,909			655,414		2,795,543			1,757,661
Employee benefits	277,567			252,178		980,627			691,060
Occupancy expense	188,029			99,946		570,215			264,822
Equipment rental and depreciation of equipment	102,562			70,117		298,243			198,830
Other expenses	931,768			648,628		2,734,718			1,806,259
Total noninterest expense	2,550,835			1,726,283		7,379,346			4,718,632
Earnings Before Income Taxes	2,589,031			1,837,024		6,405,473			4,186,223
Provision for income taxes	911,000			685,413		2,306,156			1,542,036
Net Earnings	$	1,678,031		$	1,151,611	$	4,099,317		$	2,644,187
Earnings per share:
Basic	$	0.51		$	0.44	$	1.40		$	1.02
Diluted	$	0.46		$	0.40	$	1.26		$	0.92

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

3

ATLANTIC SOUTHERN FINANCIAL GROUP, Inc.

Consolidated Statements of Comprehensive Income

For the Three Months and Nine Months Ended September 30, 2006 and 2005

(Unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2006			2005			2006			2005
Net earnings	$	1,678,031		$	1,151,611		$	4,099,317		$	2,644,187
Other comprehensive income (loss):
Unrealized holding gain (losses) on investment securities available for sale	543,379			(269,918		)	(64,892		)	(347,038		)
Unrealized holding gain (losses) on derivative financial instruments classified as cash flow hedges	18,848			(71,166		)	(51,287		)	(71,166		)
Reclassification adjustment for losses realized in net earnings	—			—			9,753			—
Total other comprehensive income (loss), before tax	562,227			(341,084		)	(106,426		)	(418,204		)
Income taxes related to other comprehensive income:
Unrealized holding (gain) losses on investment securities available for sale	(184,749		)	91,772			22,063			117,993
Unrealized holding (gain) losses on derivative financial instruments classified as cash flow hedges	(6,408		)	24,000			17,438			24,000
Reclassification adjustment for losses realized in net earnings	—			—			(3,316		)	—
Total income taxes related to other comprehensive income (loss)	(191,157		)	115,772			36,185			141,993
Total other comprehensive income (loss), net of tax	371,070			(225,312		)	(70,241		)	(276,211		)
Total comprehensive income	$	2,049,101		$	926,299		$	4,029,076		$	2,367,976

See Accompanying Notes to Consolidated Financial Statements (Unaudited).

4

ATLANTIC SOUTHERN FINANCIAL GROUP, inc.

Consolidated Statements of Cash Flows

For the Nine Months Ended September 30, 2006 and 2005

(Unaudited)

	Nine Months Ended September 30,
	2006			2005
Cash Flows from Operating Activities:
Net earnings	$	4,099,317		$	2,644,187
Adjustments to reconcile net earnings to net cash provided by operating activities:
Provision for loan losses	1,389,000			1,087,000
Depreciation	379,128			236,799
Net amortization of securities	22,051			44,831
Gain on sales of other assets	(1,873		)	—
Loss on sales / calls of investment securities	9,753			—
Loans held for sale	(1,832,682		)	(1,236,780		)
Change in cash surrender value of life insurance	(122,799		)	(4,059,730		)
Changes in accrued income and other assets	(2,131,835		)	(1,868,770		)
Changes in accrued expenses and other liabilities	1,012,933			864,194
Net cash provided by (used in) operating activities	2,822,993			(2,288,269		)
Cash Flows from Investing Activities:
Net change in loans to customers	(115,440,909		)	(77,452,424		)
Purchase of available for sale securities	(17,644,693		)	(10,582,577		)
Sales of securities available for sale	491,415			—
Proceeds from maturities/calls of available for sale securities	1,500,000			500,000
Purchase of mortgage backed securities	—			(4,507,430		)
Proceeds from paydowns on mortgage-backed securities	1,568,837			1,313,999
Purchase of interest rate floors	—			(237,667		)
Purchase of FHLB stock	(790,000		)	(69,100		)
Property and equipment expenditures	(2,805,714		)	(1,527,917		)
Net cash used in investing activities	(133,121,064		)	(92,563,116		)
Cash Flows from Financing Activities:
Net change in deposits	120,015,871			83,908,159
FHLB borrowings	12,000,000			(3,000,000		)
Proceeds from junior subordinated debentures	—			10,310,000
Payment for fractional shares	—			(464		)
Proceeds from issuance of common stock, net of issuance cost of $211,312	20,788,688			—
Net cash provided by financing activities	152,804,559			91,217,695
Net Change in Cash and Cash Equivalents	22,506,488			(3,633,690		)
Cash and Cash Equivalents, Beginning of Year	5,782,394			9,831,001
Cash and Cash Equivalents, End of Quarter	$	28,288,882		$	6,197,311

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 nine months ended September 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 nine months ended September 30, 2006 and 2005.

	For the three months ended September 30,						For the nine months ended September 30,
	2006			2005			2006			2005
Net earnings, as reported	$	1,678,031		$	1,151,611		$	4,099,317		$	2,644,187
Proforma expensing based on options valued applying the minimum value method	(13,390		)	(13,390		)	(40,170		)	(40,170		)
Related tax benefit	5,356			5,356			16,068			16,068
Pro forma net earnings	$	1,669,997		$	1,143,577		$	4,075,215		$	2,620,085
Earnings per share:
Basic, as reported	$	0.51		$	0.44		$	1.40		$	1.02
Basic, pro forma	$	0.51		$	0.44		$	1.39		$	1.01
Diluted, as reported	$	0.46		$	0.40		$	1.26		$	0.92
Diluted, pro forma	$	0.46		$	0.40		$	1.25		$	0.91

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 September 30, 2006	Earnings		Shares	Amount
Basic earnings per share	$	1,678,031	3,304,052	0.51
Effect of dilutive common stock issuances:
Stock options	—		339,341	(0.05	)
Diluted earnings per share	$	1,678,031	3,643,393	0.46

			Average
	Net		Common	Per Share
For the Nine Months Ended September 30, 2006	Earnings		Shares	Amount
Basic earnings per share	$	4,099,317	2,922,397	1.40
Effect of dilutive common stock issuances:
Stock options	—		333,512	(0.14	)
Diluted earnings per share	$	4,099,317	3,255,909	1.26

			Average
	Net		Common	Per Share
For the Three Months Ended September 30, 2005	Earnings		Shares	Amount
Basic earnings per share	$	1,151,611	2,604,052	0.44
Effect of dilutive common stock issuances:
Stock options	—		274,439	(0.04	)
Diluted earnings per share	$	1,151,611	2,878,491	0.40

			Average
	Net		Common	Per Share
For the Nine Months Ended September 30, 2005	Earnings		Shares	Amount
Basic earnings per share	$	2,644,187	2,604,052	1.02
Effect of dilutive common stock issuances:
Stock options	—		274,439	(0.10	)
Diluted earnings per share	$	2,644,187	2,878,491	0.92

(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)Business Combinations

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 $15.4 million and is expected to be completed by the fourth quarter of 2006, subject to regulatory approval, the approval of Sapelo shareholders and other customary closing conditions.  Under the terms of the merger agreement, Atlantic Southern will issue, and shareholders of Sapelo will be entitled to receive their pro rata portion of $6,239,972 and 305,695 shares of Atlantic Southern common stock.

On September 15, 2006, Atlantic Southern Financial Group, Inc. announced the signing of a definitive agreement to acquire First Community Bank, a community bank headquartered in Roberta, Georgia, with approximately $73 million in assets, $55 million in loans, $60 million in deposits and $7.5 million in stockholders’ equity as of June 30, 2006. First Community Bank operates three full service banking offices in Crawford, Bibb and Peach Counties of Georgia.  The transaction is valued at $18.3 million and is expected to be completed by the first quarter of 2007,

7

subject to regulatory approval, the approval of First Community shareholders and other customary closing conditions.

(6) Commitments

The Company entered into construction contracts during the year to build a branch office in Rincon, Georgia and a corporate center in Macon, Georgia.  These construction contracts total approximately $2.6 million.  The Company anticipates that it will sign an additional contract for approximately $1.2 million for the completion of the corporate center.  Construction on the Rincon office is expected to be completed during the first quarter of 2007, and the corporate center construction is expected to be completed during the third quarter of 2007.

(7) Recent Accounting Pronouncements

Accounting for Uncertainty in Income Taxes

In June 2006, the Financial Accounting Standards Board (“FASB”) issued Financial Interpretation No. 48 (“FIN 48”) Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109.  FIN 48 clarifies the accounting for uncertainty in income taxes recognized in the financial statements and prescribes a recognition threshold and measurement attribute for a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. This interpretation will be effective for the Company beginning in January of 2007. The Company is in the process of assessing the impact of this interpretation on its financial position and results of operations.

8

ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

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

For Each of the Three and Nine Months in the Period Ended

September 30, 2006 and 2005

The following discussion of financial condition as of September 30, 2006 compared to December 31, 2005, and the results of operations for the nine months ended September 30, 2006 compared to the nine months ended September 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;

·we may face risks with respect to future expansion and acquisitions or mergers;

·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.

9

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 September 30, 2006, were approximately $546,557,000, which represented an increase of approximately $157,847,000 or 41% from December 31, 2005.  Net earnings increased 55% for the nine months ended September 30, 2006 to $4,099,317 or $1.26 per diluted share compared to $2,644,187 or $0.92 per diluted share for the nine months ended September 30, 2005. Net earnings increased 46% for the three months ended September 30, 2006 to $1,678,031 or $0.46 per diluted share compared to $1,151,611 or $0.40 per diluted share for the three months ended September 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, 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 $15.4 million and is expected to be completed by the fourth quarter of 2006, subject to regulatory approval, the approval of Sapelo shareholders and other customary closing conditions.  Under the terms of the merger agreement, Atlantic Southern will issue, and shareholders of Sapelo will be entitled to receive their pro rata portion of $6,239,972 and 305,695 shares of Atlantic Southern common stock.

On September 15, 2006, Atlantic Southern Financial Group, Inc. announced the signing of a definitive agreement to acquire First Community Bank, a community bank headquartered in Roberta, Georgia, with approximately $73 million in assets, $55 million in loans, $60 million in deposits and $7.5 million in stockholders’ equity as of June 30, 2006. First Community Bank operates three full service banking offices in Crawford, Bibb and Peach Counties.  Under the terms of the merger agreement, First Community shareholders will receive 0.742555 shares of Atlantic Southern Financial Group, Inc. common stock for each share of First Community Bank common stock.  The transaction is valued at $18.3 million and is expected to be completed by the first quarter of 2007, subject to regulatory approval, the approval of First Community shareholders and other customary closing conditions.

10

Financial Condition

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

	September 30,			December 31,
	2006			2005			$ Change		% Change
Assets:
Cash and due from banks	$	6,250,206		$	4,202,851		$	2,047,355	48.71	%
Federal funds sold	21,959,000			1,450,000			20,509,000		1414.41	%
Securities available for sale	48,471,859			34,525,648			13,946,211		40.39	%
Loans, net of unearned income	446,960,178			331,440,956			115,519,222		34.85	%
Total assets	546,557,052			388,710,484			157,846,568		40.61	%
Liabilities:
Deposits	454,590,995			334,575,124			120,015,871		35.87	%
FHLB borrowings	28,200,000			16,200,000			12,000,000		74.07	%
Junior subordinated debentures	10,310,000			10,310,000			—		—
Loan to Deposit Ratio	98.32		%	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, especially time deposits, to fund loan growth.  Time deposits, including out-of-market and core deposits, are the Company’s principal source of funds for loans and investing in securities.

Because of the historically low interest rate environment in the last two years, we have chosen to obtain a portion of our deposits from outside our market.  Our wholesale CDs (internet and brokered) represented 53.5% of our deposits as of September 30, 2006 when compared to 51.4% of our deposits as of December 31, 2005.  The Company’s Fund Management Policy allows for the ratio of wholesale deposits to total deposits to be 60%.  The Company has been successful in replacing maturing brokered deposits and does not expect to experience significant disintermediation as the wholesale deposits mature.

Asset Quality

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

Results of Operations

The following table shows the significant components of net earnings:

	Nine Months Ended
	September 30,
	2006		2005		$ Change		% Change
Interest Income	$	26,587,355	$	14,965,921	$	11,621,434	77.65	%
Interest Expense	12,614,991		5,734,270		6,880,721		119.99	%
Net Interest Income	13,972,364		9,231,651		4,740,713		51.35	%
Provision for Loan Losses	1,389,000		1,087,000		302,000		27.78	%
Net Earnings	4,099,317		2,644,187		1,455,130		55.03	%
Net Earnings Per Diluted Share	$	1.26	$	0.92	0.34		36.96	%

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	Three Months Ended
	September 30,
	2006		2005		$ Change		% Change
Interest Income	$	10,187,722	$	5,851,967	$	4,335,755	74.09	%
Interest Expense	4,978,865		2,394,478		2,584,387		107.93	%
Net Interest Income	5,208,857		3,457,489		1,751,368		50.65	%
Provision for Loan Losses	468,000		247,000		221,000		89.47	%
Net Earnings	1,678,031		1,151,611		526,420		45.71	%
Net Earnings Per Diluted Shares	$	0.46	$	0.40	0.06		15.00	%

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.

Total interest and dividend income for the nine months ended September 30, 2006 increased $11,621,000 or 78% when compared to the nine months ended September 30, 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 nine months ended September 30, 2006 increasing approximately $117 million or 43% when compared to average loan portfolio for the nine months ended September 30, 2005.  Additionally, the average yield on loans increased during the nine months ended September 30, 2006 to 8.59% compared to an average yield of 6.94 % for the nine months ended September 30, 2005.

Total interest expense for the nine months ended September 30, 2006 increased $6,881,000 or 120% when compared to the nine months ended September 30, 2005.  Two factors impact interest expense: average balances of deposit and borrowing portfolios and average rates paid on each.  Average deposit balances increased approximately $120.2 million when comparing the nine months ended September 30, 2006 to the nine months ended September 30, 2005.  The increase of $120.2 million includes approximately $2.1 million in non-interest bearing balances in regular demand deposit accounts.  The average rate paid on the deposit portfolios for the nine months ended September 30, 2006 increased to 4.13% from 2.74% when compared to the nine months ended September 30, 2005.   Average borrowing balances increased approximately $8.5 million when comparing the nine months ended September 30, 2006 to the nine months ended September 30, 2005.  Average interest rates paid on borrowings were 4.81% for the nine months ended September 30, 2006 compared to 3.15% for the nine months ended September 30, 2005.

Net interest income increased $4,741,000 or 51% for the nine months ended September 30, 2006 compared to September 30, 2005 as a result of the items discussed above.

Total interest and dividend income for the third quarter of 2006 increased $4,336,000 or 74% when compared to the third 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 third quarter of 2006 increasing approximately $134 million or 45% when compared to average loan portfolio for the third quarter of 2005.  Additionally, the average yield on loans increased during the third quarter of 2006 to 8.80% compared to an average yield of 7.37 % for the third quarter of 2005.

Total interest expense for the third quarter of 2006 increased $2,584,000 or 108%, when compared to the third quarter of 2005.  Two factors impact interest expense: average balances of deposit and borrowing portfolios and

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average rates paid on each.  Average deposit balances increased approximately $130.5 million when comparing third quarter of 2006 to the third quarter of 2005.  The increase of $130.5 million includes approximately $2.5 million in non-interest bearing balances in regular demand deposit accounts.  The average rate paid on the deposit portfolios for the third quarter of 2006 increased to 4.43% from 3.05% when compared to third quarter of 2005.   Average borrowing balances increased approximately $7 million when comparing the third quarter of 2006 to the third quarter of 2005.  Average interest rates paid on borrowings was 5.14% for the third quarter of 2006 compared to 3.63% for the third quarter of 2005.

Net interest income increased $1,751,000 or 51%, for the third quarter of 2006 as compared to the third quarter of 2005 as a result of the items discussed above.

Provision for Loan Losses

The provision for loan losses for the nine months ended September 30, 2006, was $1,389,000 compared to $1,087,000 for the same period of 2006.  The provision for loan losses for the third quarter of 2006 was $468,000 compared to $247,000 for the third quarter of 2005.  This is due to continued loan growth for the respective periods and charge-offs for each period were minimal.

Non-interest Income

Composition of other noninterest income is as follows:

	Nine Months Ended
	September 30,
	2006			2005		$ Change			% Change
Service charges on deposit accounts	$	351,315		$	292,966	$	58,349		19.92	%
Other service charges, commissions and fees	75,597			53,095		22,502			42.38	%
Loss on sales / calls of investment securities	(9,753		)	—		(9,753		)	-100.00	%
Gain on sale of other assets	1,873			—		1,873			100.00	%
Mortgage origination fees	434,646			287,723		146,923			51.06	%
Other income	347,777			126,420		221,357			175.10	%
Total noninterest income	$	1,201,455		$	760,204	$	441,251		58.04	%

	Three Months Ended
	September 30,
	2006			2005		$ Change			% Change
Service charges on deposit accounts	$	127,016		$	106,880	$	20,136		18.84	%
Other service charges, commissions and fees	26,205			19,922		6,283			31.54	%
Loss on sale of other assets	(1,022		)	—		(1,022		)	-100.00	%
Mortgage origination fees	154,317			159,936		(5,619		)	-3.51	%
Other income	92,493			66,080		26,413			39.97	%
Total noninterest income	$	399,009		$	352,818	$	46,191		13.09	%

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 number of deposit accounts for the nine months ended September 30, 2006 was 4,002 accounts when compared to the same period of 2005 with 3,098 accounts.  The increase in mortgage origination fees for the nine months ended September 30, 2006 is primarily due to the mortgage loan brokerage activity which was started in late 2004 and the volume of mortgages originated for the nine months ended September 30, 2006

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was larger than the same period of 2005.  The two most significant changes in other income for the nine months ended September 30, 2006 were $124,334 of rental income from a portion of a Bank owned facility and $129,198 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.

The number of deposit accounts for the third quarter of 2006 increased by 278 accounts when compared to the same period of 2005.  The decrease in mortgage origination fees for the three months ended September 30, 2006 is primarily due to the timing of the funding of the mortgage loans towards the end of the month of September.  Some of the funding of the mortgage loans did not receive funding until early October 2006.  The two most significant changes in other income for the third quarter of 2006 were $14,801 of rental income from a portion of a Bank owned facility and $43,066 of income from the increase in cash surrender value 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:

	Nine Months Ended
	September 30,
	2006		2005		$ Change		% Change
Salaries	$	2,795,543	$	1,757,661	$	1,037,882	59.05	%
Employee benefits	980,627		691,060		289,567		41.90	%
Occupancy expense	570,215		264,822		305,393		115.32	%
Equipment rental and depreciation of equipment	298,243		198,830		99,413		50.00	%
Other expenses	2,734,718		1,806,259		928,459		51.40	%
Total noninterest expense	$	7,379,346	$	4,718,632	$	2,660,714	56.39	%

	Three Months Ended
	September 30,
	2006		2005		$ Change		% Change
Salaries	$	1,050,909	$	655,414	$	395,495	60.34	%
Employee benefits	277,567		252,178		25,389		10.07	%
Occupancy expense	188,029		99,946		88,083		88.13	%
Equipment rental and depreciation of equipment	102,562		70,117		32,445		46.27	%
Other expenses	931,768		648,628		283,140		43.65	%
Total noninterest expense	$	2,550,835	$	1,726,283	$	824,552	47.76	%

The increases in noninterest expenses are primarily due to the growth of the bank.  The most significant increases in the third 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 September 30, 2006, the number of full-time equivalent employees was 85 compared to 60 at September 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 September 30, 2006 compared to five facilities as of September 2005.  The increases in other expenses are not attributable to any one particular item, but represent increases related to physical facility expansion.

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Income Tax Expense

Income tax expense expressed as a percentage of earnings before income taxes was 36.00% and 36.84% for the nine months ended September 30, 2006 and 2005, respectively.  For the third quarter of 2006, the income tax expense expressed as a percentage of earnings before income taxes was 35.19% when compared to 37.31% for the third quarter of 2005.  The fluctuation in the percentage can be attributed to the tax-free income versus the pretax income.  For the nine months ended September 30, 2006, the tax-free income expressed as a percentage of earnings before income taxes was 2.56% when compared to 2.06% for the nine months ended September 30, 2005.  For the third quarter of 2006, the tax-free income expressed as a percentage of earnings before income taxes was 2.44% when compared to 1.96% for the third quarter of 2005.

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.

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 September 30, 2006, the Company had no federal funds purchased. The Company has a total available line of $29,004,000, subject to available collateral, from the Federal Home Loan Bank. The Company has $28.2 million in advances on this line at September 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 September 30, 2006 and 2005 were 15.80% and 12.20%, respectively.

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Capital

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

	September 30,		December 31,
	2006		2005
Tier 1 Leverage Ratio - Bank	11.76	%	9.26	%
Tier 1 Leverage Ratio - Consolidated	11.91	%	8.88	%
Tier 1 Risk Weighted Capital Ratio - Bank	12.87	%	10.65	%
Tier 1 Risk Weighted Capital Ratio - Consolidated	13.02	%	10.21	%
Risk Weighted Total Capital Ratio - Bank	14.07	%	11.88	%
Risk Weighted Total Capital Ratio - Consolidated	14.22	%	11.89	%

The capital of the Company and the Bank 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 I capital.

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ATLANTIC SOUTHERN FINANCIAL GROUP, INC.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

For the Nine months Ended September 30, 2006

As of September 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 SOUTHERN FINANCIAL GROUP, INC.

Item 4. Controls and Procedures

For the Nine months Ended September 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 third 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 SOUTHERN FINANCIAL GROUP, INC.

Part II. Other Information

For the Nine months Ended September 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

None

Item 5. Other Information

None

Item 6. Exhibits

(a)	Exhibits:
31.1	Certification of Chief Executive Officer Pursuant to Rule 13a-14 under the Securities Exchange Act of 1934, as amended
31.2	Certification of Chief Financial Officer Pursuant to Rule 13a-14 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: November 13, 2006

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