Heritage Financial 10Q 2010 Q2 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended June 30, 2010

Commission File Number 000-51305

HERITAGE FINANCIAL GROUP

(A United States Corporation)

IRS Employer Identification Number 45-0479535

721 N. Westover Blvd., Albany, GA 31707
229-420-0000

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 and 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. Yesþ Noo

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yeso Noo

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


Large accelerated filero	Accelerated filero	Non-accelerated filero	Smaller reporting companyþ
		(Do not check if a smaller reporting company)

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

Indicate the number of shares outstanding of each issuer’s classes of common equity, as of the latest practicable date: At August 16, 2010 there were 10,398,282 shares of issuer’s common stock outstanding.

HERITAGE FINANCIAL GROUP

INDEX


	Page
	Number
PART I — FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS AS OF JUNE 30, 2010 AND DECEMBER 31, 2009		3
CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2010 AND 2009		4
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2010 AND 2009		5
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND THE YEAR ENDED DECEMBER 31, 2009		6
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND 2009		7
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS		8
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS		23
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK		38
ITEM 4. CONTROLS AND PROCEDURES		41
ITEM 4T. CONTROLS AND PROCEDURES		41
PART II — OTHER INFORMATION		43
SIGNATURES		45

EXHIBITS
31.1 RULE 13A—14(A) CERTIFICATION OF CHIEF EXECUTIVE OFFICER
31.2 RULE 13A—14(A) CERTIFICATION OF CHIEF FINANCIAL OFFICER
32 SECTION 1350 CERTIFICATION
EX-31.1
EX-31.2
EX-32

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

Consolidated Balance Sheets
June 30, 2010 and December 31, 2009


	Unaudited			Audited
	June 30,			December 31,
	2010			2009
Assets
Cash and due from banks	$	28,141,662		$	14,921,517
Interest-bearing deposits in banks		21,008,252			43,236,287
Federal funds sold		14,030,000			11,340,000
Securities available for sale, at fair value		156,358,784			120,526,900
Federal Home Loan Bank stock, at cost		3,253,400			3,253,400
Other equity securities, at cost		1,010,000			1,010,000
Loans held for sale		448,356			—

Loans		388,737,290			334,138,932
Less allowance for loan losses		6,026,913			6,060,460

Loans, net		382,710,377			328,078,472


Premises and equipment, net		20,360,971			15,590,120
Premises held for sale		1,080,000			1,080,000
Accrued interest receivable		2,717,782			2,799,375
Foreclosed assets		3,018,774			1,795,544
Intangible assets		2,604,478			1,570,832
Cash surrender value of bank owned life insurance		15,062,762			14,756,771
Other assets		10,070,193			11,988,301


	$	661,875,791		$	571,947,519

Liabilities and Stockholders’ Equity
Deposits
Noninterest-bearing	$	46,220,643		$	28,881,905
Interest-bearing		469,490,526			397,724,617

Total deposits		515,711,169			426,606,522

Federal funds purchased and securities sold under repurchase agreements		33,954,074			32,843,465
Other borrowings		42,500,000			42,500,000
Accrued interest payable		683,041			706,321
Other liabilities		6,668,078			8,474,370

Total liabilities		599,516,362			511,130,678


Commitments and contingencies

Stockholders’ equity
Preferred stock, par value $0.01; 1,000,000 shares authorized; no shares issued		—			—
Common stock, par value $0.01; 25,000,000 shares authorized; 11,454,344 issued and outstanding		114,543			114,543
Capital surplus		41,033,227			40,609,551
Retained earnings		39,424,378			38,984,165
Accumulated other comprehensive loss, net tax of $1,275,768 and $1,591,489		(1,913,652	)		(2,387,234	)
Unearned employee stock ownership plan (ESOP) shares, 220,350 and 242,385 shares		(2,203,500	)		(2,423,850	)

		76,454,996			74,897,175
Treasury stock, at cost, 1,056,387 and 1,055,084 shares		(14,095,567	)		(14,080,334	)

Total stockholders’ equity		62,359,429			60,816,841


	$	661,875,791		$	571,947,519

See Notes to Consolidated Financial Statements.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

Consolidated Statements of Operations (Unaudited)
For the Three and Six Months Ended June 30, 2010 and 2009


	For the Three Months					For the Six Months
	2010			2009		2010			2009
Interest income
Interest and fees on loans	$	5,763,492		$	4,528,408	$	11,083,332		$	9,121,697
Interest on taxable securities		789,515			914,579		1,565,561			2,140,288
Interest on nontaxable securities		239,010			293,379		537,087			586,022
Interest on federal funds sold		17,754			15,424		26,653			31,976
Interest on deposits in other banks		45,757			172		89,906			434

		6,855,528			5,751,962		13,302,539			11,880,417

Interest expense
Interest on deposits		1,512,094			1,683,235		3,036,447			3,570,996
Interest on other borrowings		647,523			644,306		1,160,813			1,328,938

		2,159,617			2,327,541		4,197,260			4,899,934


Net interest income		4,695,911			3,424,421		9,105,279			6,980,483
Provision for loan losses		650,000			500,000		1,150,000			1,300,000

Net interest income after provision for loan losses		4,045,911			2,924,421		7,955,279			5,680,483

Noninterest income
Service charges on deposit accounts		982,218			836,648		1,806,018			1,644,483
Other service charges, commissions and fees		465,895			362,264		868,465			722,110
Brokerage fees		257,459			215,965		479,054			410,323
Mortgage origination fees		70,723			103,496		109,619			209,180
Bank owned life insurance		154,447			159,342		305,991			309,482
Gain on sales of securities		7,859			344,731		159,706			366,129
Other		16,712			16,090		38,022			22,295

		1,955,313			2,038,536		3,766,875			3,684,002


Noninterest expense
Salaries and employee benefits		2,973,966			2,226,667		5,538,848			4,424,356
Equipment		251,787			265,778		506,513			539,166
Occupancy		329,381			296,916		635,661			589,263
Advertising and marketing		124,170			110,705		244,362			198,229
Legal and accounting		179,101			154,778		327,643			272,658
Consulting & other professional fees		65,510			90,837		136,715			152,409
Directors fees and retirement		138,711			153,108		277,422			306,216
Telecommunications		103,371			54,372		172,732			116,328
Supplies		95,639			46,191		153,206			84,303
Data processing fees		510,905			383,221		991,594			713,181
(Gain) loss on sales and write-downs of other real estate owned		(112,306	)		255,004		(343,434	)		304,068
Foreclosed asset expenses		426,865			48,238		597,707			93,228
FDIC insurance and other regulatory fees		228,213			283,930		398,670			364,886
Other operating		710,084			371,905		1,092,124			698,038

		6,025,397			4,741,650		10,729,763			8,856,329


Income (loss) before income taxes		(24,173	)		221,307		992,391			508,156

Applicable income tax (benefits)		(152,726	)		66,530		66,083			(41,244	)


Net income	$	128,553		$	154,777	$	926,308		$	549,400


Basic earnings per share	$	0.01		$	0.02	$	0.09		$	0.05

Diluted earnings per share	$	0.01		$	0.02	$	0.09		$	0.05

See Notes to Consolidated Financial Statements.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

Consolidated Statements of Comprehensive Income (Loss) (Unaudited)
For the Three and Six Months Ended June 30, 2010 and 2009


	For the Three Months						For the Six Months
	2010			2009			2010			2009
Net income	$	128,553		$	154,777		$	926,308		$	549,400


Other comprehensive income (loss):
Accretion of realized gain on terminated cash flow hedge, net of tax of $35,187 and $35,187 for the quarter and $70,373 and $70,373 for the year to date		(52,780	)		(52,780	)		(105,560	)		(105,560	)
Unrealized holding gains (losses) on investments arising during the period, net of tax (benefit) of $412,083 and ($204,179) for the quarter and $449,977 and ($66,758) for the year to date		618,125			(306,268	)		674,966			(100,138	)
Reclassification adjustment for investment gains included in net income, net of tax of $3,144 and $137,892 for the quarter and $63,882 and $146,452 for the year to date		(4,715	)		(206,839	)		(95,824	)		(219,677	)


Total other comprehensive income (loss)		560,630			(565,887	)		473,582			(425,375	)


Comprehensive income (loss)	$	689,183		$	(411,110	)	$	1,399,890		$	124,025

See Notes to Consolidated Financial Statements.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

Consolidated Statements of Stockholders’ Equity (Unaudited)
For the Six Months Ended June 30, 2010 and
The Year Ended December 31, 2009


																	Accumulated
											Unearned						Other
	Common Stock				Capital			Retained			ESOP			Treasury			Comprehensive
	Shares		Par Value		Surplus			Earnings			Shares			Stock			Income (Loss)			Total
Balance, December 31, 2008		11,452,344	$	114,523	$	39,861,237		$	41,357,209		$	(2,864,550	)	$	(13,569,813	)	$	(2,685,633	)	$	62,212,973
Net loss		—		—		—			(1,652,319	)		—			—			—			(1,652,319	)
Cash dividend declared, $0.32 per share		—		—		—			(720,725	)		—			—			—			(720,725	)
Stock-based compensation expense		—		—		807,402			—			—			—			—			807,402
Repurchase of 62,026 shares of stock for the treasury		—		—		—			—			—			(516,426	)		—			(516,426	)
Issuance of 440 shares of common stock from the treasury		—		—		(2,602	)		—			—			5,905			—			3,303
Issuance of restricted shares of common stock		2,000		20		(20	)		—			—			—			—			—
Other comprehensive income		—		—		—			—			—			—			298,399			298,399
Tax benefit shortfall from stock-based compensation plans		—		—		(58,494	)		—			—			—			—			(58,494	)
ESOP shares earned, 44,070 shares		—		—		(73,946	)		—			440,700			—			—			366,754
Tax benefit on ESOP expense		—		—		75,974			—			—			—			—			75,974

Balance, December 31, 2009		11,454,344	$	114,543	$	40,609,551		$	38,984,165		$	(2,423,850	)	$	(14,080,334	)	$	(2,387,234	)	$	60,816,841

Net income		—		—		—			926,308			—			—			—			926,308
Cash dividend declared, $0.18 per share		—		—		—			(486,095	)		—			—			—			(486,095	)
Stock-based compensation expense		—		—		403,593			—			—			—			—			403,593
Repurchase of 1,578 shares of stock for the treasury		—		—		—			—			—			(18,904	)		—			(18,904	)
Issuance of 275 shares of common stock from the treasury		—		—		(350	)		—			—			3,671			—			3,321
Other comprehensive income		—		—		—			—			—			—			473,582			473,582
Excess tax expense from stock based compensation plans		—		—		(11,352	)		—			—			—			—			(11,352	)
ESOP shares earned, 22,035 shares		—		—		14,699			—			220,350			—			—			235,049
Tax benefit on ESOP expense		—		—		17,086			—			—			—			—			17,086

Balance, June 30, 2010		11,454,344	$	114,543	$	41,033,227		$	39,424,378		$	(2,203,500	)	$	(14,095,567	)	$	(1,913,652	)	$	62,359,429

See Notes to Consolidated Financial Statements.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

Consolidated Statements of Cash Flows (Unaudited)
For the Six Months Ended June 30, 2010 and 2009


	For the Six Months
	2010			2009
OPERATING ACTIVITIES
Net income	$	926,308		$	549,400

Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		431,436			454,227
Deposit premium amortization		106,063			—
Provision for loan losses		1,150,000			1,300,000
ESOP compensation expense		235,049			222,085
Stock-based compensation expense		403,593			403,593
Net gain on sales of securities available for sale		(159,706	)		(366,129	)
Accretion of gain on termination of cash flow hedge		(175,933	)		(175,933	)
Increase in bank owned life insurance		(305,991	)		(309,483	)
Excess tax shortfall related to stock-based compensation plans		11,352			—
Excess tax expense related to ESOP		(17,086	)		—
Decrease in interest receivable		304,678			215,122
Decrease in interest payable		(62,588	)		(341,673	)
(Increase) decrease in taxes receivable		479,003			(400,037	)
(Gain) loss on sales and write-downs of other real estate owned		(343,434	)		304,068
Net other operating activities		1,174,091			660,043

Total adjustments		3,230,527			1,965,883

Net cash provided by operating activities		4,156,835			2,515,283


INVESTING ACTIVITIES
Decrease in interest-bearing deposits in banks		22,228,035			116,892
Purchases of securities available for sale		(76,131,495	)		(46,362,401	)
Proceeds from maturities of securities available for sale		24,783,690			21,403,154
Proceeds from sales of securities available for sale		16,640,864			26,670,015
Net change in Federal Home Loan Bank stock		—			(67,600	)
(Increase) decrease in federal funds sold		(2,690,000	)		28,884,000
(Increase) decrease in loans, net		(9,392,577	)		5,933,050
Purchase of premises and equipment		(1,754,447	)		(364,660	)
Proceeds from acquisition activity		40,530,558			—
Proceeds from sale of other real estate owned		1,982,531			1,078,430

Net cash provided by investing activities		16,197,159			37,290,880


FINANCING ACTIVITIES
Decrease in deposits		(7,748,514	)		(14,622,292	)
Increase (decrease) in federal funds purchased and securities sold under agreement to repurchase		1,110,609			(6,752,583	)
Excess tax benefit related to stock-based compensation plans		(11,352	)		—
Excess tax related to ESOP		17,086			—
Repayment of other borrowings		—			(10,000,000	)
Purchase of treasury stock, net		(15,583	)		(423,140	)
Dividends paid to stockholders		(486,095	)		(408,006	)

Net cash used in financing activities		(7,133,849	)		(32,206,021	)


Net increase in cash and due from banks		13,220,145			7,600,142
Cash and due from banks at beginning of period		14,921,517			10,159,602

Cash and due from banks at end of period	$	28,141,662		$	17,759,744


SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest	$	4,220,540		$	5,241,607
Taxes		9,000			358,793

NONCASH TRANSACTIONS
Increase (decrease) in unrealized losses on securities available for sale	$	(965,237	)	$	533,025
Principal balances of loans transferred to other real estate owned		2,909,934			199,896

See Notes to Consolidated Financial Statements.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 — BASIS OF PRESENTATION AND ACCOUNTING ESTIMATES

The accompanying consolidated financial information of the Company is unaudited; however, such information reflects all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations. The results of operations for the three and six months ended June 30, 2010, are not necessarily indicative of the results that may be expected for the full year. These statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009.

The consolidated financial statements include the accounts of the Company and its subsidiary. Significant intercompany transactions and balances have been eliminated in consolidation.

In preparing the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Material estimates that are particularly susceptible to significant change in the near-term relate to the determination of the allowance for loan losses, the valuation of foreclosed real estate, contingent assets and liabilities, deferred tax assets, other-than-temporary impairments of securities and the fair value of financial instruments.

The accompanying consolidated financial information of the Company as of June 30, 2010 and for the three and six months ended June 30, 2010 and 2009 is unaudited; however, such information reflects all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share represent income available to common shareholders divided by the weighted-average number of common shares outstanding during the period, excluding unallocated shares of the Employee Stock Ownership Plan. The table below sets forth our earnings per share for the three and six months ended June 30, 2010 and 2009:


	Three Months				Six Months
	2010		2009		2010		2009
Basic earnings per share:
Net income	$	128,553	$	154,777	$	926,308	$	549,400

Weighted average common shares outstanding		10,109,512		10,039,847		10,095,382		10,033,052

Total basic earnings per common share	$	0.01	$	0.02	$	0.09	$	0.05


Diluted earnings per share:
Net income	$	128,553	$	154,777	$	926,308	$	549,400

Weighted average common shares outstanding		10,109,512		10,039,847		10,095,382		10,033,052

Effect of dilutive stock options and restricted stock		2,284		—		1,609		—

Weighted average dilutive common shares outstanding		10,111,796		10,039,847		10,096,991		10,033,052

Total diluted earnings per common share	$	0.01	$	0.02	$	0.09	$	0.05

For the three and six months June 30, 2010 and 2009, potential common shares of 660,315 and 689,570 were not included in the calculation of diluted earnings per share because the assumed exercise of such shares would be anti-dilutive.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 3 — SHARE BASED COMPENSATION

On May 17, 2006, our stockholders approved the 2006 Equity Incentive Plan (the “Plan”). The purpose of the Plan is to promote the long-term growth and profitability of Heritage Financial Group, to provide directors, advisory directors, officers and employees of Heritage Financial Group and its affiliates with an incentive to achieve corporate objectives, to attract and retain individuals of outstanding competence and to provide such individuals with an equity interest in Heritage Financial Group. Under the Plan, the Compensation Committee of the Board of Directors has discretion to award up to 771,149 shares, of which 550,281 were available as stock options or stock appreciation rights and 220,328 shares were available as restricted stock awards. During 2006, the Compensation Committee of the Board of Directors granted stock options and tandem stock appreciation rights totaling 520,605 shares and granted restricted stock awards totaling 207,905 shares. During the first quarter of 2008, an additional 19,750 of tandem stock option and stock appreciation rights, and 9,505 of restricted stock awards were granted to employees. Additionally, during the fourth quarter of 2009, 6,000 tandem stock options and stock appreciation rights and 2,000 restricted stock awards were granted to employees. There were no grants of restricted stock, stock options, or stock appreciation rights during the quarter ended June 30, 2010. All stock options, stock appreciation rights and restricted stock awards vest over a period of five years.

The Company granted restricted awards that may not be sold or otherwise transferred until certain restrictions have lapsed. The share based expense for these awards was determined based on the market price of our stock at the date of grant applied to the total number of shares that were anticipated to fully vest, amortized over the vesting period. As of June 30, 2010, there was approximately $482,000 of unrecognized compensation associated with these awards. For each of the three months ended June 30, 2010 and 2009, we recognized compensation expense associated with these awards of approximately $124,000. For each of the six months ended June 30, 2010 and 2009, we recognized compensation expense associated with these awards of approximately $248,000.

We recognized compensation expense related to stock options of approximately $78,000 for each of the three months ended June 30, 2010, and 2009. For the six months ended June 30, 2010 and 2009, we recognized compensation expense related to these options of $156,000 and $155,000, respectively. At June 30, 2010, there was approximately $298,000 of unrecognized compensation related to stock options.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4 — SECURITIES

The amortized cost and fair value of securities available for sale with gross unrealized gains and losses are summarized as follows:


			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
June 30, 2010:

U. S. Government sponsored agency securities (GSE’s)*	$	38,233,440	$	308,266	$	—		$	38,541,706
State and municipal securities		21,120,264		107,109		(1,109,068	)		20,118,305
Corporate debt securities		2,174,465		—		(427,032	)		1,747,433
GSE residential mortgage-backed securities		90,965,393		1,035,017		(56	)		92,000,354

Private label residential mortgage-backed securities		3,533,571		106,199		—			3,639,770

Total debt securities		156,027,133		1,556,591		(1,536,156	)		156,047,568
Equity securities		434,803		25,199		(148,786	)		311,216

Total securities**	$	156,461,936	$	1,581,790	$	(1,684,942	)	$	156,358,784


December 31, 2009:

U. S. Government sponsored agency securities (GSE’s)*	$	30,571,605	$	190,036	$	(299,664	)	$	30,461,977
State and municipal securities		30,142,545		196,013		(1,215,694	)		29,122,864
Corporate debt securities		2,178,999		44,976		(313,757	)		1,910,218
GSE residential mortgage-backed securities		54,091,124		449,796		(4,682	)		54,536,238
Private label residential mortgage-backed securities		3,859,494		15,015		(30	)		3,874,479

Total debt securities		120,843,767		895,836		(1,833,827	)		119,905,776
Equity securities		751,521		47,999		(178,396	)		621,124

Total securities**	$	121,595,288	$	943,835	$	(2,012,223	)	$	120,526,900


*		Such as Federal National Mortgage Association, Federal Home Loan Mortgage Corporation, and Federal Home Loan Banks.

**		At June 30, 2010 and December 31, 2009, the Company held no securities of any single issuer (excluding the U.S. Government and federal agencies) with a book value that exceeded 10% of stockholders’ equity.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4 —

SECURITIES (Continued)

The amortized cost and fair value of debt securities available for sale as of June 30, 2010 by contractual maturity are shown below. Actual maturities may differ from contractual maturities in mortgage-backed securities because the mortgages underlying the securities may be called or repaid without penalty. Therefore, these securities are not included in the maturity categories in the following maturity summary.


	Amortized			Fair
	Cost			Value
Due from one year to five years	$	7,624,465		$	7,214,058
Due from five to ten years		18,335,448			18,423,380
Due after ten years		35,568,256			34,770,006
Mortgage-backed securities		94,498,964			95,640,124

	$	156,027,133		$	156,047,568

Securities with a carrying value of $52,556,197 and $46,814,000 at June 30, 2010 and December 31, 2009, respectively, were pledged to secure public deposits, repurchase agreements and for other purposes required or permitted by law. Gains and losses on sales of securities available for sale consist of the following:

	June 30,			June 30,
	2010			2009
Gross gains on sales of securities	$	169,448		$	403,958
Gross losses on sales of securities		(9,742	)		(37,829	)

Net realized gains on sales of securities available for sale	$	159,706		$	366,129

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4 —

SECURITIES (Continued)

The following table shows the gross unrealized losses and fair value of securities aggregated by category and length of time that securities have been in a continuous unrealized loss position at June 30, 2010 and December 31, 2009.


	Less Than 12 Months					12 Months or More					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
Description of Securities	Value		Losses			Value		Losses			Value		Losses
June 30, 2010:
U.S. Government sponsored agency securities (GSE’s)	$	—	$	—		$	—	$	—		$	—	$	—
State and municipal securities		8,470,202		(255,781	)		6,025,696		(853,287	)		14,495,898		(1,109,068	)
Corporate securities		916,685		(100,112	)		830,750		(326,920	)		1,747,433		(427,032	)
GSE residential mortgage-backed securities		1,354,222		(56	)		—		—			1,354,222		(56	)
Private label residential mortgage-backed securities		—		—			—		—			—		—

Subtotal, debt securities		10,741,109		(355,949	)		6,856,446		(1,180,207	)		17,597,555		(1,536,156	)
Equity securities		—		—			286,014		(148,786	)		286,014		(148,786	)

Total temporarily impaired securities	$	10,741,109	$	(355,949	)	$	7,142,460	$	(1,328,993	)	$	17,883,569	$	(1,684,942	)


December 31, 2009:
U.S. Government sponsored agency securities (GSE’s)	$	14,295,966	$	(299,664	)	$	—	$	—		$	14,295,966	$	(299,664	)
State and municipal securities		8,125,696		(311,298	)		10,722,375		(904,396	)		18,848,071		(1,215,694	)
Corporate debt securities		—		—			845,308		(313,757	)		845,308		(313,757	)
GSE residential mortgage-backed securities		2,883,976		(4,682	)		—		—			2,883,976		(4,682	)
Private label residential Mortgage-backed securities		24,344		(30	)		—		—			24,344		(30	)

Subtotal, debt securities		25,329,982		(615,674	)		11,567,683		(1,218,153	)		36,897,665		(1,833,827	)
Equity securities		—		—			256,404		(178,396	)		256,404		(178,396	)

Total temporarily impaired securities	$	25,329,982	$	(615,674	)	$	11,824,087	$	(1,396,549	)	$	37,154,069	$	(2,012,223	)

Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation.

In analyzing an issuer’s financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred and industry analysts’ reports. As management has the intent and ability to hold the securities until maturity, or for the foreseeable future and due to the fact that the unrealized losses relate primarily to changes in interest rates and do not affect the expected cash flows of the underlying collateral or issuer, no declines are deemed to be other than temporary.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4 — SECURITIES (Continued)

The investment in the common stock of the Federal Home Loan Bank of Atlanta is accounted for by the cost method, which also represents par value, and is made for long-term business affiliation reasons. In addition, this investment is subject to restrictions relating to sale, transfer or other disposition. Dividends are recognized in income when declared. The carrying value of this investment at June 30, 2010 is $3,253,400. The estimated fair value of this investment is $3,253,400 as of June 30, 2010, and therefore is not considered impaired.

Other equity securities represent an investment in the common stock of the Chattahoochee Bank of Georgia (“Chattahoochee”), a de novo bank in Gainesville, Georgia. The Company accounts for this investment by the cost method. This investment represents approximately 4.9% of the outstanding shares of Chattahoochee. Since its initial capital raise, Chattahoochee has not had any stock transactions, and therefore, no fair market value is readily available. The carrying value of this investment at June 30, 2010, is $1,010,000. The Company plans to hold this investment for the foreseeable future, and does not consider it impaired as of June 30, 2010.

NOTE 5 — FAIR VALUE MEASUREMENTS

On January 1, 2008, the Company adoptedFair Value Measurements and Disclosures (FASB ASC 820), Fair Value Measurements.Fair Value Measurements and Disclosuresdefines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements.Fair Value Measurements and Disclosuresapplies to reported balances that are required or permitted to be measured at fair value under existing accounting pronouncements; accordingly, the standard does not require any new fair value measurements of reported balances.

Fair Value Measurements and Disclosuresemphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements,Fair Value Measurements and Disclosures establishes a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Level 1 and 2 of the hierarchy) and the reporting entity’s own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy).

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 5 — FAIR VALUE MEASUREMENTS (Continued)

Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access. Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs may include quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates and yield curves that are observable at commonly quoted intervals. Level 3 inputs are unobservable inputs for the assets or liabilities, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity. In instances where the determination of the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

The table below presents the Company’s assets and liabilities measured at fair value on a recurring basis as of June 30, 2010, aggregated by the level in the fair value hierarchy within which those measurements fall.


	Quoted Prices		Significant
	in Active		Other		Significant
	Markets for		Observable		Unobservable
	Identical Assets		Inputs		Inputs
	(Level 1)		(Level 2)		(Level 3)		Total
Assets
Available for sale investment securities	$	25,200	$	156,333,584	$	—	$	156,358,784

Total assets at fair value	$	25,200	$	156,333,584	$	—	$	156,358,784

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 5 —		FAIR VALUE MEASUREMENTS (Continued)

		Assets Measured at Fair Value on a Nonrecurring Basis

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

		Loan impairment is reported when full payment under the loan terms is not expected. In accordance with the provisions of the loan impairment guidance (FASB ASC 310-10-35), individual loans were written down to their fair value. Loans applicable to write downs of impaired loans are estimated using the present value of expected cash flows or the appraised value of the underlying collateral discounted as necessary due to management’s estimates of changes in economic conditions. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. If these allocations cause the allowance for loan losses to require an increase, such increase is reported as a component of the provision for loan losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan is confirmed. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the loan impairment as non-recurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the loan impairment as non-recurring Level 3.

		Foreclosed assets are adjusted to fair value upon transfer of the loans to foreclosed assets. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the foreclosed assets as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the foreclosed asset as nonrecurring Level 3.

		At June 30, 2010, there were no impaired loans reported at fair value utilizing Level 2 valuation inputs. Impaired loans with a carrying value of $7,476,514 were reduced by specific valuation allowance allocations totaling $1,609,000 for a total reported fair value of $5,867,514 on collateral valuations utilizing Level 3 valuation inputs at June 30, 2010.

		Fair Value Option

		Fair Value Measurements and Disclosures (FASB ASC 820)allows companies to report selected financial assets and liabilities at fair value. The changes in fair value are recognized in earnings and the assets and liabilities measured under this methodology are required to be displayed separately on the balance sheet. While this became effective for the Company beginning January 1, 2008, the Company has not elected the fair value option that is offered.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 5 —			FAIR VALUE MEASUREMENTS (Continued)

			Disclosures about Fair Value of Financial Instruments

			The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair value is based on discounted cash flows or other valuation techniques. These techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. In accordance with the Fair Value Measurement and Disclosures Topic of the FASB Accounting Standards Codification, the Company excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company.

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

			Cash, Due From Banks, Interest-Bearing Deposits in Banks and Federal Funds Sold: The carrying amount of cash, due from banks, interest-bearing deposits at other financial institutions and federal funds sold approximates fair value.

			Securities:Fair value of securities is based on available quoted market prices. The carrying amount of equity securities with no readily determinable fair value approximates fair value.

			Loans held for sale:The carrying amount of loans held for sale approximates fair value.

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

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

			Federal Funds Purchased and Securities Sold Under Repurchase Agreements:The fair value of fixed rate federal funds purchased and securities sold under repurchase agreements is estimated based on discounted contractual cash flows using the current incremental borrowing rates for similar type borrowing arrangements.

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

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 5 —			FAIR VALUE MEASUREMENTS (Continued)

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

			Off-Balance-Sheet Instruments:The carrying amount of commitments to extend credit and standby letters of credit approximates fair value.

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


	June 30, 2010				December 31, 2009
	Carrying		Fair		Carrying		Fair
	Amount		Value		Amount		Value
Financial assets:
Cash, due from banks and interest-bearing deposits in banks	$	49,149,914	$	49,149,914	$	58,157,804	$	58,157,804

Federal funds sold	$	14,030,000	$	14,030,000	$	11,340,000	$	11,340,000

Securities available for sale	$	156,358,784	$	156,358,784	$	120,526,900	$	120,526,900

Federal home loan bank stock	$	3,253,400	$	3,253,400	$	3,253,400	$	3,253,400

Other equity securities	$	1,010,000	$	1,010,000	$	1,010,000	$	1,010,000


Loans held for sale	$	448,356	$	448,356	$	—	$	—


Loans	$	388,737,290	$	392,322,166	$	334,138,932	$	341,971,372
Allowance for loan losses		6,026,913		—		6,060,460		—

Loans, net	$	382,710,377	$	392,322,166	$	328,078,472	$	341,971,372


Accrued interest receivable	$	2,717,782	$	2,717,782	$	2,799,379	$	2,799,379


Financial liabilities:
Deposits	$	515,711,169	$	510,188,044	$	426,606,522	$	424,097,453


Federal funds purchased and securities sold under repurchase agreements	$	33,954,074	$	37,358,074	$	32,843,465	$	35,285,910


Other borrowings	$	42,500,000	$	46,011,062	$	42,500,000	$	44,563,744


Accrued interest payable	$	683,041	$	683,041	$	706,321	$	706,321

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 6 — ACQUISITION ACTIVITY

Five Branches of The Park Avenue Bank

On May 24, 2010, the Company completed an acquisition of five branches of The Park Avenue Bank (“PAB”), two in Statesboro and one each in Baxley, Hazlehurst and Adel, Georgia. The following table summarizes the estimated fair value of the assets acquired and liabilities assumed at the date of acquisition:


						As Recorded
			Fair Value			by Heritage
	Acquired		and Other			Financial
(dollars in thousands)	from PAB		Adjustments			Group
Assets
Cash and cash equivalents	$	1,183	$	39,379	(a)	$	40,562
Premises and equipment		3,448		—			3,448
Loans		51,941		(149	) (b)		51,792
Core deposit intangibles		—		1,130	(c)		1,130
Other assets		245		—			245

Total Assets	$	56,817	$	40,360		$	97,177


Liabilities
Noninterest-bearing deposits	$	15,564	$	—		$	15,564
Interest-bearing deposits		81,289		268	(d)		81,557
Other liabilities		39		17	(e)		56

Total Liabilities	$	96,892	$	285		$	97,177


Explanations

(a)		The adjustment represents the cash received from PAB to reflect the acquisition of excess liabilities assumed over assets purchased.

(b)		The adjustment represents the adjustment to fair market value of the loans assumed in the transaction.

(c)		The adjustment represents the consideration paid for the value of the core deposit base assumed in the acquisition. The core deposit asset was recorded as an identifiable intangible asset and will be amortized on an accelerated basis over the average life of the deposit base, estimated to be seven years.

(d)		The adjustment is necessary because the weighted average interest rate of the CD’s acquired exceeded the cost of similar funding at the time of acquisition. The fair value adjustment will be amortized to reduce interest expense on a declining basis over the average life of the portfolio.

(e)		The adjustment represents additional liabilities assumed in the transaction.

The Company did not acquire any loans with deteriorated credit quality as of the acquisition date in the PAB branch transaction. Accordingly, the Company accounts for the loans acquired in this transaction under FASB ASC 805, Business Combinations.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 6 — ACQUISITION ACTIVITY (Continued)

The Tattnall Bank

On December 4, 2009, the Company participated in a federally assisted acquisition of substantially all of the assets and assumption of substantially all of the liabilities of The Tattnall Bank (“Tattnall”) from the FDIC. Tattnall operated two branch offices in the Southeast Georgia markets of Reidsville and Collins. The Company’s bid included a discount payment from the FDIC totaling $15.0 million. The Company did not enter into a loss-sharing agreement with the FDIC.

Initially, the Company established a contingent liability in conjunction with this transaction to cover the costs to maintain and dispose of problem assets acquired in the Tattnall transaction. As of December 31, 2009, the balance of this contingent liability was $2.1 million. During the second quarter of 2010, the Company determined that this contingent liability should be reflected as a further reduction in the fair market value of the loans acquired. In addition, the Company determined it should record expenses related to these problem assets as charges during the period in which they occur, rather than as a reduction to the contigent liability. For the six months ended June 30, 2010, the Company recorded expenses related to these problem assets of approximately $280,000. The Company estimates it will incur approximately $1.8 million in additional expenses resolving these problem assets over the next five years.

On the date of acquisition, the Company estimated the future cash flows of the loan portfolio and made the adjustments necessary to reflect the loans at fair value. At each quarter end subsequent to the acquisition, the Company revises the estimates of future cash flows based on current information and makes the necessary adjustments to continue reflecting the assets at their fair value.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 6 — ACQUISITION ACTIVITY (Continued)

The following table represents the loans receivables at the acquisition date:


	Acquired
	loans			Acquired
	without			loans with
	deterioration			deterioration			Total
	in credit			in credit			loans
(dollars in thousands)	quality			quality			acquired
Contractually required principal and interest	$	10,156		$	27,530		$	37,686
Non-accretable difference		(1,358	)		(9,994	)		(11,352	)

Cash flows expected to be collected		8,798			17,536			26,334
Accretable yield		(1,090	)		(2,480	)		(3,570	)

Basis in acquired loans	$	7,708		$	15,056		$	22,764

The following table is a summary of changes in the accretable yields of acquired loans during the six months ended June 30, 2010:


	Acquired
	loans			Acquired
	without			loans with
	deterioration			deterioration			Total
	in credit			in credit			loans
(dollars in thousands)	quality			quality			acquired
Balance, December 31, 2009	$	1,025		$	2,352		$	3,377
Transfers from non-accretable difference to accretable yield		272			372			644
Accretion		(533	)		(1,041	)		(1,574	)

Balance, June 30, 2010	$	764		$	1,683		$	2,447

The Company recognizes that the determination of the initial fair value of loans at the acquisition date involves a high degree of judgment and complexity. The carrying value of the acquired loans reflects management’s best estimate of the fair value of these assets as of the acquisition date. However, the amount the Company ultimately recognizes on these assets could differ materially from the value reflected in these financial statements, based upon the timing and amount of collections on the acquired loans in future periods. To the extent the actual values recognized for the acquired loans are less than the Company’s estimate, additional losses will be incurred. These fair value estimates are considered preliminary, and are subject to change for up to one year after the closing date of the acquisition as additional information relative to the closing date fair values becomes available.

HERITAGE FINANCIAL GROUP AND SUBSIDIARY
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 7 — SUBSEQUENT EVENTS

Subsequent events and transactions that occurred after June 30, 2010 but prior to August 23, 2010, the date these financial statements were available to be issued, have been evaluated for potential recognition or disclosure in these financial statements.

In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act was enacted and will remove existing barriers to interstate banking. In the past, interstate banking was often accomplished by the purchase of an existing bank charter in a target state, as the Company did when it entered Florida in 2007. Because such charter purchases are no longer necessary to effect a move into another state, the value assigned to our $1.0 million intangible asset related to that Florida is now impaired. Accordingly, the Company will be taking a one-time, noncash pre-tax charge of $1.0 million to our equity capital and net income in the third quarter of 2010 to write-off this intangible asset.

On July 5, 2010, the Company received regulatory approval and opened a full-service branch office in Valdosta, Georgia.

In July 2010, the Company declared a regular quarterly cash dividend of $0.09 per share. The dividend was paid on August 20, 2010, to stockholders of record as of August 6, 2010.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements.

This report contains certain ‘forward-looking statements’ that may be identified by the use of such words as “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated” with respect to our financial condition. Results of operations and business are subject to various factors that could cause actual results to differ materially from these estimates and most other statements that are not historical in nature. These factors include, but are not limited to, general and local economic conditions, changes in interest rates, deposit flows, demand for mortgage, consumer and other loans, real estate values, competition, changes in accounting principles, policies or guidelines, changes in legislation or regulation, and other economic, competitive, governmental, regulatory and technological factors affecting our operations, pricing, products and services.

General

Heritage Financial Group (“the Company”) is the parent holding company of HeritageBank of the South (“the Bank”). The Company is in a mutual holding company structure and 76% of its outstanding common stock is owned by Heritage, MHC (“MHC”), a federal mutual holding company.

The principal business of the Company is operating our wholly owned subsidiary, the Bank. Our results of operations depend primarily on our net interest income. Net interest income is the difference between the interest income we earn on our interest-earning assets, consisting primarily of loans and investments, and the interest we pay on our interest-bearing liabilities, consisting of savings and checking accounts, money market accounts, time deposits, federal funds purchased and securities sold under agreements to repurchase and other borrowings. Our results of operations also are affected by our provisions for loan losses, noninterest income and noninterest expense. Noninterest income consists primarily of service charges on deposit accounts, mortgage origination fees, transaction fees, bank-owned life insurance, and commissions from investment services. Noninterest expense consists primarily of salaries and employee benefits, occupancy, equipment and data processing, advertising, professional fees and other costs. Our results of operations also may be affected significantly by general and local economic and competitive conditions, changes in market interest rates, governmental policies and actions of regulatory authorities.

Evolution of Business Strategy

We originally were chartered as a federal credit union in 1955. In 1998, we became a community chartered credit union. We accepted deposits and made loans to members who lived, worked or worshiped in the approved counties for the credit union charter. In 2001, we converted to a mutual thrift charter in order to better serve our customers and communities through a broader lending ability and an expanded customer base beyond the field of membership permitted for our credit union. The mutual holding company structure was established in 2002, and we converted from a thrift charter to a state savings bank charter in 2005.

The Company completed an initial public stock offering on June 29, 2005. We sold 3,372,375 shares of common stock in that offering for $10.00 per share. The Company’s employee stock ownership plan (the “ESOP”) purchased 440,700 shares with the proceeds of a loan from the Company. The Company received net proceeds of $32.4 million in the public offering, 50% of which was contributed to the Bank and $4.4 million of which was loaned to the ESOP for its purchase of shares in the offering. The Company also issued an additional 7,867,875 shares of common stock to MHC, so that MHC would own 70% of the outstanding common stock at the close of the offering.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

On March 17, 2010, the Company adopted a plan to reorganize from a two-tier mutual holding company to a full stock holding company and will undertake a “second-step” offering of shares of the holding company’s common stock. The conversion and offering is expected to be completed in the fourth quarter of 2010, subject to regulatory, stockholder and depositor approvals. As part of the reorganization, HeritageBank of the South will become a wholly owned subsidiary of a to-be-formed stock corporation, Heritage Financial Group, Inc. Shares of the common stock of the Company, other than those held by Heritage, MHC, will be converted into shares of common stock in Heritage Financial Group, Inc., using an exchange ratio designed to preserve current percentage ownership interests. Shares owned by Heritage, MHC will be retired, and new shares of Heritage Financial Group, Inc. representing that ownership will be offered and sold to the Bank’s eligible depositors, the Bank’s tax-qualified employee benefit plans and members of the general public as set forth in the Plan of Conversion and Reorganization of Heritage, MHC. The Plan of Conversion and Reorganization of Heritage, MHC has been submitted to the Office of Thrift Supervision and the Georgia Department of Banking and Finance for regulatory approval. Upon receipt of regulatory approvals, the Company will seek approval from its stockholders and Heritage, MHC members (i.e, HeritageBank of the South depositors).

Our current business strategy is to operate a well-capitalized and profitable commercial and retail financial institution dedicated to serving the needs of our customers. We strive to be the primary financial institution in the market areas we serve. We offer a broad range of products and services, while stressing personalized and efficient customer service and convenient access to these products and services. We intend to continue to operate as a commercial and consumer lender. We have structured operations around a branch system that is staffed with knowledgeable and well-trained employees. Subject to capital requirements and our ability to grow in a reasonable and prudent manner, we may open additional branches as opportunities arise. In addition to our branch system, we continue to expand electronic services for our customers. We attempt to differentiate ourselves from our competitors by providing a higher level of customer service.

We continue to implement our business strategy, as set forth in our Form 10-K, which was filed with the Securities and Exchange Commission on April 4, 2010. A critical component of this strategy includes increasing our non-consumer based lending and our ability to continue to grow our commercial and small business loan portfolios. As of June 30, 2010, our non-consumer based lending represented approximately $212.9 million, or 55.6% of our total loan portfolio.

Another key component of our business strategy is the expansion of our operations outside of the Southwest Georgia market. On August 8, 2006, we commenced operating a branch in Ocala, Florida. On December 4, 2009, we acquired substantially all of the assets and assumed substantially all of the liabilities of The Tattnall Bank in Reidsville and Collins, Georgia, through an FDIC-assisted transaction. On December 31, 2009, we acquired the Lake City, Florida branch of Atlantic Coast Bank. On May 24, 2010, we acquired five Park Avenue Bank branches located in the Southeast Georgia markets of Statesboro (2), Hazlehurst and Baxley, and the Southwest Georgia market of Adel.

On June 7, 2010, we announced our entry into the Valdosta, Georgia market with the opening of a loan production office and the hiring of three local bankers. Subsequently, we obtained regulatory approval for a full service branch, and on July 5, 2010, we opened a branch office in a leased facility in Valdosta. Later in 2010, we expect to open a larger branch office in Valdosta.

Operating branches outside of the Southwest Georgia market subjects us to additional risk factors. These risk factors include, but are not limited to the following: management of employees from a distance, lack of knowledge of the local market, additional credit risks, logistical operational issues, and time constraints of management. These risk factors, as well as others we have not identified, may affect our ability to successfully operate outside of our current market area.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Critical Accounting Policies

We have not changed any of our critical accounting policies since those disclosed in our Form 10-K, which was filed with the Securities and Exchange Commission on April 4, 2010. Those accounting policies relate to the judgments and estimates used in the preparation of our financial statements in the calculation of the allowance for loan losses, the accounting for impaired loans and the provision for income taxes.

Off Balance Sheet Liabilities

The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. We use the same credit policies in making these commitments as we do for on-balance sheet instruments. A summary of the Company’s commitments as of June 30, 2010, is as follows:


	(In thousands)
Commitments to extend credit	$	42,604
Financial stand-by letters of credit		808

	$	43,412

Comparison of Financial Condition at June 30, 2010 and December 31, 2009

Total assets increased by $89.9 million or 15.7% to $661.9 million at June 30, 2010, from $572.0 million at December 31, 2009. Cash and due from banks increased $13.2 million or 88.6% to $28.1 million at June 30, 2010 from $14.9 million at December 31, 2009. Total interest-earning assets increased $71.3 million or 14.0% to $580.6 million at June 30, 2010, from $509.2 million at December 31, 2009. Loans increased $54.6 million, securities available for sale increased $35.8 million, and federal funds increased $2.7 million, while interest-bearing deposits in banks decreased $22.2 million.

The increase in cash and due from banks was primarily a result of maintaining a higher compensating balance in our primary correspondent account. This increase in our compensating balance allowed us to utilize our excess liquidity position to offset various correspondent fees, which was more advantageous than maintaining a portion of the excess balance at the prevailing overnight federal funds rate. The increase in loans was primarily due to our acquisition of five branches, including $51.8 million in loans, from The Park Avenue Bank during the second quarter. The increase in securities available for sale was due to purchases of securities we made to utilize the net cash of $39.4 million received from this acquisition. These purchases were U.S. Government agency securities and U.S. government agency mortgage-backed securities. The decrease in interest-bearing deposits in banks was due to the maturity of certificates of deposit we held with other financial institutions which were not reinvested at maturity. The increase in federal funds sold was due to excess liquidity at the end of the quarter. We expect to maintain higher balances in cash and due from banks, as well as federal funds sold due to the addition of the deposit accounts we acquired from The Park Avenue Bank. During the quarter, we added $448,000 in loans held for sale. This consists of mortgage loans generated to be sold to investors. We generally originate and fund these loans in our name with a pre-approval to sell to the investor. We typically hold these loans for up to thirty days and earn the stated rate on the note until they are purchased by the investor.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

We continue to maintain excess liquidity for three purposes. First, we believe it is prudent to maintain higher liquidity during uncertain economic times. Second, we believe this excess liquidity gives us additional flexibility in our expansion strategy. Third, we believe this excess liquidity will provide us flexibility for funding loans or other investments if we see a dramatic rise in interest rates. Maintaining excess liquidity does negatively impact net interest margin in the short term, however, we feel the benefits of maintaining excess liquidity outweighs the cost to net interest margin. We expect to continue to maintain excess liquidity during the remainder of 2010.

Premises and equipment increased $4.8 million or 30.6% at June 30, 2010, of which $1.2 million was due to our purchase of branches in Reidsville and Collins from the FDIC during the first quarter of 2010 and approximately $3.4 million related to our acquisition of the five branches from The Park Avenue Bank. The acquisition of The Park Avenue Bank branches included land of $1.4 million, buildings of $1.9 million and furniture and equipment $149,000. In addition, we expect to begin construction on a new branch in Lee County, Georgia during the second half of 2010 at an approximate cost of $2.5 million.

Foreclosed assets increased from $1.8 million at December 31, 2009, to $3.0 million at June 30, 2010. The primary reason for the increase was the addition of a $1.9 million undeveloped commercial property in the Atlanta metropolitan market in the first quarter of 2010. This property was foreclosed in March 2010 and was under a contract for sale; however, the buyer did not perform as agreed in the contract. We are currently marketing this property for sale. The remainder of our foreclosed assets consists of various properties, primarily located in southwest Georgia, with no single property having a book value over $400,000. All of these properties are being marketed actively for disposition. During the first six months of 2010, we had gross proceeds on sales of OREO property of approximately $2.0 million and recorded net gains of $343,000 on those sales.

Other assets decreased $1.9 million or 16.0% during the six months ended June 30, 2010. This decrease was due primarily to a decrease in receivables from the FDIC related to the purchase of the Reidsville and Collins branches in the FDIC-assisted transaction during the first quarter of 2010.

Total liabilities increased $88.4 million or 17.3% to $599.5 million at June 30, 2010 compared with $511.1 million at December 31, 2009. Deposits increased by approximately $97.1 million through our acquisition of five branches in May 2010. Approximately $75.6 million of these deposits were checking and money market accounts, while approximately $21.5 million were certificates of deposit that matured within 45 days of the acquisition of the branches. The remainder of the certificates of deposit of these branches remained with The Park Avenue Bank after the acquisition. Because The Park Avenue Bank will not be operating branches in these markets, we expect some of those customers may migrate to us as their certificates of deposit mature, which we believe may add approximately $50.0 million of the certificates of deposit we did not assume in the branch acquisition to our deposit base in these markets over the next year. The total amount of other borrowings remained level at $42.5 million during the first six months of 2010. Federal funds purchased and securities sold under agreements to repurchase increased by $1.1 million or 3.3% due to the acquisition of commercial customers and their related repurchase agreements in the acquisition of The Park Avenue Bank branches.

Total equity increased $1.6 million to $62.4 million at June 30, 2010, compared with $60.8 million at December 31, 2009. Net income of $926,000 for the first six months of 2010, stock based compensation of $404,000, the allocation of $203,000 in ESOP shares as well as other comprehensive income of $474,000 increased equity, while dividends of $486,000 decreased equity.

The recently enacted Dodd-Frank Wall Street Reform and Consumer Protection Act also will remove existing barriers to interstate banking. In the past, interstate banking was often accomplished by the purchase of an existing bank charter in a target state, as the Bank did when it entered Florida in 2007. Because such charter purchases are no longer necessary to effect a move into another state, the value assigned to our $1.0 million intangible asset related to that Florida is now impaired. Accordingly, we will be taking a one-time, noncash pre-tax charge of $1.0 million to our equity capital and net income in the third quarter of 2010 to write-off this intangible asset. This write-off will have no effect on HFG’s or HeritageBank of the South’s regulatory capital or tangible capital, because those measures already exclude intangible assets.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Comparison of Operating Results for the Three and Six Month Periods Ended June 30, 2010 and 2009

General.

During the three months ended June 30, 2010, we recorded net income of $129,000, compared to $155,000 in net income for the three months ended June 30, 2009. Higher net interest income offset an increased provision expense, lower noninterest income and higher noninterest expenses

For the six months ended June 30, 2010, we recorded net income of $926,000 compared to $549,000 in net income for the six months ended June 30, 2009. Higher net interest income, lower provision expense and an increase in noninterest income was offset by higher noninterest expense.

Interest Income.

Total interest income for the three months ended June 30, 2010, increased $1.1 million or 19.2% to $6.9 million, compared to $5.8 million during the second quarter of 2009. The increase was due to an increase in average-earning assets of $105.9 million during the 2010 quarter to $544.9 million compared with $439.0 million during the 2009 quarter. The increase in average-earning assets was primarily due to our acquisition activity during the fourth quarter of 2009 and the first half of 2010. The increase in average-earning assets was partially offset by a decrease of 26 basis points in yield on average-earning assets to 5.14% in the 2010 quarter compared with 5.40% in the 2009 quarter. The decrease in yield was due to a lower yield on investment securities. We expect this trend to continue as long term interest rates remain low.

Total interest income for the six months ended June 30, 2010, increased $1.4 or 12.0% to $13.3 million, compared to $11.9 million during the first six months of 2009. The increase was due to an increase in average-earning assets of $77.8 million during the 2010 period to $523.7 million compared with $445.9 million during the 2009 period. This increase in average-earning assets was due primarily to our acquisition activity during the fourth quarter of 2009 and the first half of 2010. The increase in the average balance of earning assets was partially offset by a 27 basis points decrease in yield on average-earning assets to 5.23% during the first half of 2010 compared with a yield of 5.50% earned during the same period in 2009. The decrease in yield was due to a lower yield on investment securities. We expect the yield on our earning assets to continue to decrease slightly during the remainder of 2010 as we continue to see the effects of the rate cuts by the Board of Governors of the Federal Reserve System from 2007 and 2008 as our loans and investment securities mature and reprice. In addition, as we carry excess liquidity on our balance sheet, primarily from our branch and FDIC-assisted acquisitions, we will see decreases in our overall yield on average earning assets.

Interest Expense.

Total interest expense decreased $168,000 or 7.2% to $2.2 million for the quarter ended June 30, 2010, compared to $2.3 million during the same period in 2009. The cost of interest-bearing liabilities decreased 60 basis points during the second quarter of 2010 to 1.71% compared with 2.31% during the second quarter of 2009. This decrease was partially offset by an increase in the average balance of interest-bearing liabilities of $103.0 million during the second quarter of 2010 to $507.0 million compared to $404.0 million during the second quarter of 2009.

Total interest expense decreased $703,000 or 14.3% to $4.2 million for the six months ended June 30, 2010, compared to $4.9 million during the same period in 2009. The cost of interest-bearing liabilities decreased 68 basis points to 1.73% during the first half of 2010 compared with 2.41% during the same period in 2009. This decrease in costs was partially offset by an increase in the average balance of interest-bearing liabilities during the first half of 2010 to $488.8 million, an increase of $78.5 million compared to $410.3 million during the first half of 2009. We experienced significant decreases in the cost of interest-bearing liabilities during 2009 and the first six months of 2010. However, we expect these decreases will slow during the remainder of 2010 as we near the end of the current rate cycle.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Net Interest Income.

Net interest income for the second quarter of 2010 increased $1.3 million or 37.1% to $4.7 million compared with $3.4 million for the second quarter of 2009. The net interest spread increased 34 basis points to 3.43% for the second quarter of 2010 compared to 3.09% for the second quarter of 2009. The net interest margin increased 28 basis points to 3.55% for the second quarter of 2010 compared to 3.27% for the second quarter of 2009.

Net interest income for the six months ended June 30, 2010 increased $2.1 million or 30.4% to $9.1 million from $7.0 million for the six months ended June 30, 2009. The net interest spread increased 41 basis points for the first half of 2010 to 3.50% compared to 3.09% during the same period in 2009. The net interest margin increased 32 basis points to 3.61% for the first half of 2010 compared to 3.29% during the same period in 2009.

The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. Yields on tax-exempt obligations have been computed on a tax equivalent basis. Nonaccruing loans have been included in the table as loans carrying a zero yield.


	Three Months Ended June 30,
	2010								2009
	(Dollars in Thousands)
	Average			Interest					Average			Interest
	Outstanding			Earned/		Yield/			Outstanding			Earned/		Yield/
	Balance			Paid		Rate			Balance			Paid		Rate
Interest-Earning Assets:
Loans	$	364,075		$	5,763		6.36	%	$	296,363		$	4,528		6.14	%
Mortgage Loans held for sale		30			—		5.07			—			—		—
Taxable investment securities		88,276			790		3.58			87,657			915		4.17
Tax exempt investment securities		24,170			239		5.99			30,155			293		5.90
Federal funds sold		27,384			18		0.26			24,362			15		0.25
Interest bearing deposits with banks		40,968			45		0.45			468			—		0.15

Total interest-earning Assets		544,903			6,855		5.14			439,005			5,751		5.40


Interest-Bearing Liabilities:
Interest bearing demand		87,087			222		1.02			49,794			128		1.03	%
Savings and money market		179,263			303		0.68			112,608			365		1.30
Retail time deposits		153,317			920		2.41			126,769			1,040		3.29
Wholesale time deposits		11,316			67		2.37			17,370			150		3.47
Borrowings		75,998			647		3.42			97,426			644		2.65

Total interest-bearing liabilities		506,981			2,159		1.71			403,967			2,327		2.31


Net interest income				$	4,696							$	3,424

Net interest rate spread							3.43	%							3.09	%

Net earning assets	$	37,922							$	35,038

Net interest margin							3.55								3.27	%

Average interest-earning assets to average interest-bearing liabilities		1.07	x							1.09	x

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)


	Six Months Ended June 30
	2010								2009
	(Dollars in Thousands)
	Average			Interest					Average			Interest
	Outstanding			Earned/		Yield/			Outstanding			Earned/		Yield/
	Balance			Paid		Rate			Balance			Paid		Rate
Interest-Earning Assets:
Loans	$	350,438		$	11,083		6.39	%	$	297,534		$	9,122		6.19	%
Mortgage Loans held for sale		15			—		5.07			—			—		—
Taxable investment securities		88,221			1,566		3.55			92,190			2,140		4.64
Tax exempt investment securities		27,149			537		5.99			30,110			586		5.90
Federal funds sold		20,693			27		0.26			25,528			32		0.25
Interest bearing deposits with banks		37,193			90		0.49			502			—		0.17

Total interest-earning Assets		523,709			13,303		5.23			445,864			11,880		5.50


Interest-Bearing Liabilities:
Interest bearing demand		77,400			405		1.06			49,401			260		1.06
Savings and money market		168,276			604		0.72			112,385			734		1.32
Retail time deposits		154,883			1,881		2.45			130,196			2,202		3.41
Wholesale time deposits		12,449			146		2.37			20,930			375		3.61
Borrowings		75,773			1,161		3.09			97,360			1,329		2.75

Total interest-bearing liabilities		488,781			4,197		1.73			410,272			4,900		2.41


Net interest income				$	9,106							$	6,980

Net interest rate spread							3.50	%							3.09	%

Net earning assets	$	34,928							$	35,592

Net interest margin							3.61	%							3.29	%

Average interest-earning assets to average interest-bearing liabilities		1.07	x							1.09	x

The following schedule presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and that due to the changes in interest rates. The change in interest attributable to rate has been determined by applying the change in rate between years to average balances outstanding in the later year. The change in interest due to volume has been determined by applying the rate from the earlier year to the change in average balances outstanding between years. Changes that are not solely due to volume have been consistently attributed to rate.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

(Continued)


	Three Months Ended June 30,
	2010 vs. 2009
	Increase (Decrease)						Total
	Due to						Increase
	Volume			Rate			(Decrease)
	(Dollars in Thousands)
Interest-earning assets:
Loans	$	1,034		$	201		$	1,235
Loans held for sale		—			—			—
Taxable investment securities		(36	)		(89	)		(125	)
Tax exempt investment securities		(63	)		9			(54	)
Federal funds sold		2			1			3
Interest bearing deposits with banks		44			1			45

Total interest-earning assets	$	981		$	123			1,104


Interest-bearing liabilities:
Interest bearing demand	$	95		$	(1	)		94
Savings and money market		270			(332	)		(62	)
Retail time deposits		191			(311	)		(120	)
Wholesale time deposits		(48	)		(35	)		(83	)
Borrowings		(87	)		90			3

Total interest-bearing liabilities	$	421		$	(589	)		(168	)


Net interest income							$	1,272


	Six Months Ended June 30,
	2010 vs. 2009
	Increase (Decrease)						Total
	Due to						Increase
	Volume			Rate			(Decrease)
	(Dollars in Thousands)
Interest-earning assets:
Loans	$	1,607		$	354		$	1,961
Loans held for sale		—			—			—
Taxable investment securities		(133	)		(441	)		(574	)
Tax exempt investment securities		(66	)		17			(49	)
Federal funds sold		(6	)		1			(5	)
Interest bearing deposits with banks		88			2			90

Total interest-earning assets	$	1,490		$	(67	)		1,423


Interest-bearing liabilities:
Interest bearing demand	$	145		$	—			145
Savings and money market		498			(628	)		(130	)
Retail time deposits		370			(691	)		(321	)
Wholesale time deposits		(125	)		(104	)		(229	)
Borrowings		(184	)		16			(168	)

Total interest-bearing liabilities	$	704		$	(1,407	)		(703	)


Net interest income							$	2,126

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Provision for Loan Losses.

During the quarter ended June 30, 2010, we recorded a $650,000 provision for loan losses, which was an increase compared to the $500,000 provision recorded during the same period in 2009. For the six months ended June 30, 2010, we recorded a $1.2 million provision for loan losses, which was a decrease compared to the $1.3 million provision recorded during the same period in 2009.

The increase for the current quarter was due to an increase in net charge-offs of $250,000 compared to the same period last year and a significant growth in the total loan portfolio, partially offset by a decrease in non-performing loans to $7.5 million at June 30, 2010 from $8.5 million at December 31, 2009 and $12.1 million at June 30, 2009. The decrease for the six months ended June 30, 2010 was primarily due to a reduction in non-performing and internally criticized loans during the first quarter of 2010.

The allowance for loan losses as a percentage of total loans decreased to 1.55% at June 30, 2010, compared to 1.81% at December 31, 2009 and 1.94% at June 30, 2009. Excluding purchased loans, the allowance for loan losses to total loans was 1.98% at June 30, 2010, compared to 2.03% at December 31, 2009 and 1.94% at June 30, 2009.

The following table sets forth asset quality information for the periods indicated:


	As of and for the quarter ended
	6/30/10			3/31/10			12/31/09			6/30/09
	(Dollars in thousands)
Total Portfolio
Allowance for loan losses to total loans		1.55	%		1.70	%		1.81	%		1.94	%
Allowance for loan losses to average loans		1.66	%		1.73	%		1.98	%		1.93	%
Allowance for loan losses to non-performing loans		80.21	%		89.23	%		71.61	%		47.47	%
Loan — 30 — 89 days past due & still accruing	$	2,498		$	1,810		$	3,247		$	1,275
Nonaccrual loans		7,514			6,518			8,463			12,104
Loans — 90 days past due & still accruing		—			—			—			—
Total non-performing loans		7,514			6,518			8,463			12,104
OREO and repossessed assets		3,019			3,567			1,795			907
Total non-performing assets		10,533			10,085			9,526			13,011
Non-performing loans to total loans		1.93	%		1.90	%		2.53	%		4.09	%
Non-performing assets to total assets		1.59	%		1.76	%		1.79	%		2.76	%
Net charge-offs to average loans (annualized)		0.48	%		0.88	%		7.42	%		0.26	%
Net charge-offs	$	439		$	744		$	5,667		$	189

Portfolio excluding purchased loans
Allowance for loan losses to total loans		1.98	%		1.90	%		2.03	%		1.94	%
Allowance for loan losses to average loans		2.00	%		1.96	%		2.06	%		1.93	%
Allowance for loan losses to non-performing loans		80.90	%		90.29	%		83.74	%		47.47	%
Loan — 30 — 89 days past due & still accruing	$	369		$	1,603		$	1,826		$	1,275
Nonaccrual loans		7,450			6,442			7,237			12,104
Loans — 90 days past due & still accruing		—			—			—			—
Total non-performing loans		7,450			6,442			7,237			12,104
OREO and repossessed assets		2,782			3,253			1,190			907
Total non-performing assets		10,232			9,695			8,427			13,011
Non-performing loans to total loans		2.45	%		2.10	%		2.42	%		4.09	%
Non-performing assets to total assets		1.54	%		1.69	%		1.47	%		2.76	%
Net charge-offs to average loans (annualized)		0.58	%		1.00	%		7.70	%		0.26	%
Net charge-offs	$	439		$	744		$	5,667		$	189

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

The following table sets forth asset quality information for the periods indicated:


	As of and for the six
	months ended
	6/30/10			6/31/09
	(Dollars in thousands)
Total Portfolio
Allowance for loan losses to total loans		1.55	%		1.94	%
Allowance for loan losses to average loans		1.72	%		1.93	%
Allowance for loan losses to non-performing loans		80.21	%		47.47
Loan — 30 — 89 days past due & still accruing	$	2,498		$	1,275
Nonaccrual loans		7,514			12,104
Loans — 90 days past due & still accruing		—			—
Total non-performing loans		7,514			12,104
OREO and repossessed assets		3,019			907
Total non-performing assets		10,533			13,011
Non-performing loans to total loans		1.93	%		4.09	%
Non-performing assets to total assets		1.59	%		2.76	%
Net charge-offs to average loans (annualized)		0.68	%		0.34	%
Net charge-offs	$	1,184		$	504

Portfolio excluding purchased loans
Allowance for loan losses to total loans		1.98	%		1.94
Allowance for loan losses to average loans		2.02	%		1.93
Allowance for loan losses to non-performing loans		80.90	%		47.47
Loan — 30 — 89 days past due & still accruing	$	369		$	1,275
Nonaccrual loans		7,450			12,104
Loans — 90 days past due & still accruing		—			—
Total non-performing loans		7,450			12,104
OREO and repossessed assets		2,782			907
Total non-performing assets		10,232			13,011
Non-performing loans to total loans		2.45	%		4.09	%
Non-performing assets to total assets		1.54	%		2.76	%
Net charge-offs to average loans (annualized)		0.79	%		0.34	%
Net charge-offs	$	1,184		$	504

At June 30, 2010, our largest non-performing loan was $1.7 million, secured by 20.01 acres of land in Ocala, Florida. Our next largest non-performing loan at that date was $1.4 million secured by an owner-occupied retail building in Ocala, Florida. Our third largest non-performing loan at that date was $970,000, secured by commercial real estate in Ocala, Florida. The allowance for loans loss related to these loans totaled $725,000 or 17.7% of their outstanding balance at June 30, 2010. During the second quarter of 2010, we foreclosed on and disposed of some of the residential properties in Southwest Georgia securing a non-performing loan of $856,000 at March 31, 2010. At June 30, 2010, we had foreclosed properties and loan balances remaining from this relationship totaling $177,000 and $283,000, respectively. At March 31, 2010, we included $98,000 related to this relationship in our allowance for loan losses for this relationship. At June 30, 2010, we included $39,000 related to this relationship in our allowance for loan losses. The remainder of our non-performing loans consists of various consumer and commercial loans, none exceeding $500,000. Current appraisals on real estate loans, expected cost of potential foreclosure or other disposition, and other potential losses on these loans are considered in our analysis of the allowance for loan losses.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Our internally criticized (watch list) and classified assets totaled $31.4 million at June 30, 2010, compared to $35.8 million at December 31, 2009 and $28.6 million at June 30, 2009. This includes loans with respect to which known information about the possible credit problems of the borrowers have caused management to have doubts as to the ability of the borrowers to comply with present loan repayment terms and which may result in the future inclusion of such items in the non-performing asset categories. These balances include the aforementioned nonperforming loans, other real estate, and repossessed assets. These loans have been considered in management’s determination of the adequacy of our allowance for loan losses. Our internal loan review processes strive to identify weaknesses in loans prior to performance issues. However, our processes do not always provide sufficient time to work out plans with borrowers that would avoid foreclosure and/or losses.

We establish provisions for loan losses, which are charged to operations, at a level we believe will reflect probable credit losses based on historical loss trends and an evaluation of specific credits in the loan portfolio. In evaluating the level of the allowance for loan losses, we consider the types of loans and the amount of loans in the loan portfolio, historical loss experience, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, prevailing economic conditions, and past due status and trends.

We assess the allowance for loan losses on a quarterly basis and make provisions for loan losses as necessary in order to maintain the proper level of allowance. While we use available information to recognize losses on loans, future loan loss provisions may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses and may require us to recognize additional provisions based on their judgment of information available to them at the time of their examination. The allowance for loan losses is maintained at a level that represents management’s best estimate of inherent losses in the loan portfolio, and such losses were both probable and reasonably estimable. The level of the allowance is based on estimates and the ultimate losses may vary from the estimates.

Noninterest Income.

Noninterest income, excluding securities transactions, increased $254,000, or 15.0%, from $1.7 million for the three months ended June 30, 2009 to $1.9 million for the three months ended June 30, 2010, and $289,000, or 8.7%, from $3.3 million for the six months ended June 30, 2009 to $3.6 million for the six months ended June 30, 2010.

A summary of noninterest income, excluding securities transactions, follows:


	Three Months Ended June 30,
	2010			2009			$ Chg			% Chg
Service charges on deposit accounts	$	982,218		$	836,648		$	145,570			17.40	%
Other service charges, commissions and fees		465,895			362,264			103,631			28.61	%
Brokerage fees		257,459			215,965			41,494			19.21	%
Mortgage origination fees		70,723			103,496			(32,773	)		-31.67	%
Bank owned life insurance		154,447			159,342			(4,895	)		-3.07	%
Other		16,712			16,090			622			3.87	%

Total noninterest income	$	1,947,454		$	1,693,805		$	253,649			14.98	%

Noninterest income as a percentage of average assets (annualized)		1.26	%		1.36	%

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)


	Six Months Ended June 30,
	2010			2009			$ Chg			% Chg
Service charges on deposit accounts	$	1,806,018		$	1,644,483		$	161,535			9.82	%
Other service charges, commissions and fees		868,465			722,110			146,355			20.27	%
Brokerage fees		479,054			410,323			68,731			16.75	%
Mortgage origination fees		109,619			209,180			(99,561	)		-47.60	%
Bank owned life insurance		305,991			309,482			(3,491	)		-1.13	%
Other		38,022			22,295			15,727			70.54	%

Total noninterest income	$	3,607,169		$	3,317,873		$	289,296			8.72	%

Noninterest income as a percentage of average assets (annualized)		1.22	%		1.33	%

The increase in both periods was primarily due to an increase in overdraft fees and an increase in ATM and debit card income. Recent regulatory changes to the offering of overdraft privileges on ATM and debit cards may cause significant decreases in our overdraft fees. At this time, we are unable to accurately estimate the effect this legislation, and other potential legislation, may have on our overdraft income. We are currently analyzing our options to replace this income stream if it is significantly affected by legislation or by a significant change in consumer behavior. These options will most likely result in a major change in the fees we charge to our deposit customers. In addition, there was an increase in fee income due to the accounts obtained in our acquisition of The Park Avenue Bank branches.

These increases were partially offset by decreases in mortgage origination fees. The primary reason for the decrease was due to an increase in the number of loans we have originated and held for our portfolio, rather than sold. During the first quarter of 2010, over half of the loans we originated were held for our portfolio. In accordance with generally accepted accounting principles, we accrete the origination fee income associated with these loans over the life of the loans. For loans that are originated and immediately sold, we recognize all the origination fee income at the time of origination. We expect this trend to continue for the remainder of 2010.

Noninterest Expense.

Noninterest expense increased $1.3 million, or 27.0%, from $4.7 million for the three months ended June 30, 2009 to $6.0 million for the three months ended June 30, 2010, and $1.9 million, or 21.1%, from $8.8 million for the six months ended June 30, 2009 to $10.7 million for the six months ended June 30, 2010.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

A summary of noninterest expense follows:


	Three Months Ended June 30,
	2010			2009			$ Chg			% Chg
Salaries and employee benefits	$	2,973,966		$	2,226,667		$	747,299			33.56	%
Equipment		251,787			265,778			(13,991	)		-5.26	%
Occupancy		329,381			296,916			32,465			10.93	%
Advertising and marketing		124,170			110,705			13,465			12.16	%
Legal and accounting		179,101			154,778			24,323			15.71	%
Consulting & other professional fees		65,510			90,837			(25,327	)		-27.88	%
Directors fees and retirement		138,711			153,108			(14,397	)		9.40	%
Telecommunications		103,371			54,372			48,999			90.12	%
Supplies		95,639			46,191			49,448			107.05	%
Data processing fees		510,904			383,221			127,684			33.32	%
Loss on sale and write-downs of other real estate owned		(112,306	)		255,004			(367,310	)		-144.04	%
Foreclosed asset and collection expenses		426,865			48,238			378,627			784.91	%
FDIC insurance and other regulatory fees		228,213			283,930			(55,717	)		-19.62	%
Other operating		710,084			371,905			338,182			90.93	%

Total noninterest expenses	$	6,025,397		$	4,741,650		$	1,283,747			27.07	%

Noninterest expenses as a percentage of average assets (annualized)		3.90	%		3.84	%


	Six Months Ended June 30,
	2010			2009			$ Chg			% Chg
Salaries and employee benefits	$	5,538,848		$	4,424,356		$	1,114,492			25.19	%
Equipment		506,513			539,166			(32,653	)		-6.06	%
Occupancy		635,661			589,263			46,398			7.87	%
Advertising and marketing		244,362			198,229			46,133			23.27	%
Legal and accounting		327,643			272,658			54,985			20.17	%
Consulting & other professional fees		136,715			152,409			(15,694	)		-10.30	%
Directors fees and retirement		277,422			306,216			(28,794	)		-9.40	%
Telecommunications		172,732			116,328			56,404			48.49	%
Supplies		153,206			84,303			68,903			81.73	%
Data processing fees		991,594			713,181			278,413			39.04	%
Loss on sale and write-downs of other real estate owned		(343,434	)		304,068			(647,502	)		-212.95	%
Foreclosed asset and collection expenses		597,707			93,228			504,479			541.12	%
FDIC insurance and other regulatory fees		398,670			364,886			33,784			9.26	%
Other operating		1,092,124			698,038			394,086			56.46	%

Total noninterest expenses	$	10,729,763		$	8,856,329		$	1,873,434			21.15	%

Noninterest expenses as a percentage of average assets (annualized)		3.61	%		3.59	%

The increase in both periods was primarily due to increases in salaries and employee benefits resulting from increases in the number of FTE’s primarily related to our acquisition activity, along with an increase in foreclosed asset and collection expenses.

During 2010, we recorded gains on the sale of other real estate owned, which partially offset the increases in noninterest expenses. These gains related to the disposition of several properties we acquired in our FDIC-assisted acquisition. As we continue to dispose of property in this portfolio, we may record further gains or losses.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

However, these gains may or may not offset other losses and write-downs we incur related to our other real estate owned.

Foreclosed asset and collection expenses increased, primarily due to expenses associated with our FDIC-acquired portfolio. Initially, we recorded a contingent liability for these expenses at the time of acquisition and recorded expenses incurred against this liability. However, during the quarter ended June 30, 2010, we determined we should expense these items as they are incurred. The amount we originally set up as a contingent liability for these expenses has now been used to further reduce the fair market value of the loans acquired in this acquisition. We expect to incur approximately $1.8 million in expenses related to these loans over the next five years.

Other operating expenses also increased significantly during both periods, primarily due to the amortization of core deposit intangibles associated with our acquisition activity in the fourth quarter of 2009 and second quarter of 2010. In addition, we recorded conversion expenses of $267,000 in the second quarter of 2010 related to our acquisition and conversion of the PAB branches.

Income Tax Expense.

For the quarter ended June 30, 2010, we recorded a tax benefit of $153,000 compared to income tax expense of $67,000 and an effective tax rate of 30.1% during the same period in 2009. Due to the small loss before taxes for the quarter ended June 30, 2010, the effective tax rate is not meaningful. For the six months ended June 30, 2010, we recorded tax expense of $66,000 and an effective tax rate of 6.7%. This compares to a tax benefit of $41,000 during the first six months of 2009 with an effective tax rate of (8.1%). For the quarter ended June 30, 2010 and for the six months ended June 30, 2009, our nontaxable income exceeded total net income, and thus, a tax benefit was recorded.

Liquidity and Capital Resources

Liquidity management involves the matching of cash flow requirements of customers, who may be either depositors desiring to withdraw funds or borrowers needing assurance that sufficient funds will be available to meet their credit needs and the ability of the Company to manage those requirements. The Company strives to maintain an adequate liquidity position by managing the balances and maturities of interest earning assets and interest bearing liabilities so that the balance it has in short-term investments at any given time will adequately cover any reasonably anticipated immediate need for funds. Additionally, the Bank maintains relationships with correspondent banks, which could provide funds on short-term notice if needed.

The liquidity and capital resources of the Company are monitored continuously by the Company’s Board-authorized Asset Liability Management Committee and on a periodic basis by state and federal regulatory authorities. As determined under guidelines established by these regulatory authorities, the Company’s and the Bank’s liquidity ratios at June 30, 2010, were considered satisfactory. At that date, the Bank’s short-term investments were adequate to cover any reasonably immediate need for funds. The Company is aware of no events or trends likely to result in a negative material change in liquidity.

The consolidated statement of cash flows for the six months ended June 30, 2010 and 2009, detail cash flows from operating, investing and financing activities. For the six months ended June 30, 2010, net cash provided by operating activities was $4.2 million while investing activities provided $16.2 million and financing activities reduced cash $7.1 million resulting in a net increase in cash during the six month period of $13.2 million.

Cash flow provided by investing activities included $40.5 in proceeds from acquisition activity partially offset by net securities transactions which utilized $34.7 million of cash. The reduction in cash flow provided by financing activities related to the decrease in deposits of $7.7 million which primarily related to the maturities of certificates of deposit.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)

Regulatory Capital Ratios for the Company and HeritageBank of the South at June 30, 2010

The Company’s and the Bank’s regulatory capital levels exceed the minimums required by state and federal authorities. The following table reflects the Bank’s compliance at June 30, 2010, with regulatory capital requirements. These calculations are based on total risk weighted assets of $424.8 million consolidated and $418.3 million for HeritageBank of the South as of June 30, 2010, and average total assets of $613.7 million consolidated and $607.2 million for HeritageBank of the South for the six months ended June 30, 2010.


											Minimum Required
											to Be Well Capitalized
						For Capital					Under Prompt
						Adequacy					Corrective Action
	Actual					Purposes					Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
	(Dollars in thousands)
Total Capital to Risk Weighted Assets
Consolidated	$	63,140		14.9	%	$	33,987		8.0	%		—		—
HeritageBank of the South	$	57,049		13.6	%	$	33,460		8.0	%	$	41,825		10.0	%

Tier I Capital to Risk Weighted Assets
Consolidated	$	57,902		13.6	%	$	16,994		4.0	%		—		—
HeritageBank of the South	$	51,800		12.4	%	$	16,730		4.0	%	$	25,095		6.0	%

Tier I Capital to Average Total Assets
Consolidated	$	57,902		9.4	%	$	24,549		4.0	%		—		—
HeritageBank of the South	$	51,800		8.5	%	$	24,288		4.0	%	$	30,360		5.0	%

Heritage Financial Group is subject to Georgia capital requirements for bank holding companies. At June 30, 2010, Heritage Financial Group had total equity of $62.4 million or 9.4% of total assets as of that date. Under Georgia capital requirements for holding companies, Heritage Financial Group had Tier I leverage capital of $57.9 million or 9.4%, which was $33.4 million above the 4.0% requirement.

ITEM 3. QUANTITAVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Asset and Liability Management and Market Risk

Our Risk When Interest Rates Change. The rates of interest we earn on assets and pay on liabilities generally are established contractually for a period of time. Market rates change over time. Like other financial institutions, our results of operations are impacted by changes in interest rates and the interest rate sensitivity of our assets and liabilities. The risk associated with changes in interest rates and our ability to adapt to these changes is known as interest rate risk and is our most significant market risk.

How We Measure Our Risk of Interest Rate Changes. As part of our attempt to manage our exposure to changes in interest rates and comply with applicable regulations, we monitor our interest rate risk. In doing so, we analyze and manage assets and liabilities based on their interest rates and payment streams, timing of maturities, repricing opportunities, and sensitivity to actual or potential changes in market interest rates.

To manage the potential for adverse effects of material and prolonged increases in interest rates on our results of operations, we adopted asset and liability management policies to understand, measure, monitor, and control the risk. These policies are designed to allow us to implement strategies to minimize the effects of interest rate changes to net income and capital position by properly matching the maturities and repricing terms of our interest earning assets and interest bearing liabilities. These policies are implemented by the risk management committee, which is composed of senior management and board members. The risk management committee establishes guidelines for and monitors the volume and mix of assets and funding sources, taking into account relative costs and spreads, interest rate sensitivity and liquidity requirements. The objectives are to manage assets and funding sources to produce results that limit negative changes in net income and capital while supporting liquidity, capital adequacy, growth, risk and profitability goals. Senior managers oversee the process on a daily basis. The risk management committee meets quarterly to review, among other things, economic conditions and interest rate outlook, current and projected needs and capital position, anticipated changes in the volume and mix of assets and liabilities, interest rate risk exposure, liquidity position and net portfolio present value. The committee also recommends strategy changes, as appropriate, based on their review. The committee is responsible for reviewing and reporting the effects of the policy implementations and strategies to the board of directors on a quarterly basis.

In order to manage our assets and liabilities and achieve the desired liquidity, credit quality, interest rate risk, profitability and capital targets, we have focused our strategies on:

	•		Limiting the percentage of long-term fixed-rate loans within our portfolio;

	•		Originating a mix of variable-rate and shorter term fixed-rate loans;

	•		Originating prime-based home equity lines of credit;

	•		Managing deposit relationships for stability and a lower cost of funds position;

	•		Using Federal Home Loan Bank advances and other funding sources to align maturities and repricing terms of funding sources with loans; and

	•		Continuing the origination of consumer loans.

The risk management committee has oversight over the asset-liability management of the Company. This committee regularly reviews interest rate risk by forecasting the impact of alternative interest rate environments on net income and the market value of portfolio equity. Market value of portfolio equity is a measurement of the value of the balance sheet at a fixed point in time. It is summarized as the fair value of assets less the fair value of liabilities. The committee reviews computations of the value of capital at current interest rates and alternative interest rates. The variance in the net portfolio value between current interest rate computations and alternative rate computations represents the potential impact on capital if rates were to change.

ITEM 3. QUANTITAVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (Continued)

Asset and Liability Management and Market Risk

The Company is exposed only to U.S. dollar interest rate changes, and, accordingly, the Company manages exposure by considering the possible changes in the net interest margin. The Company does not have any trading instruments nor does it classify any portion of the investment portfolio as held for trading. The Company monitors its sensitivity to changes in interest rates and may use derivative instruments to hedge this risk. The Company does not enter into derivatives or other financial instruments for trading or speculative purposes. Finally, the Company has no exposure to foreign currency exchange rate risk and commodity price risk.

Interest rates play a major part in the net interest income of a financial institution. The sensitivity to rate changes is known as “interest rate risk”. The repricing of interest-earning assets and interest-bearing liabilities can influence the changes in net interest income.

The Company uses simulation analysis to monitor changes in net interest income due to changes in market interest rates. The simulation of rising, declining and flat interest rate scenarios allows management to monitor and adjust interest rate sensitivity to minimize the impact of market interest rate swings. The analysis of the impact on net interest income over a twelve-month period is subjected to a shock in interest rates of 100, 200, 300 and 400 basis point increase or decrease in market rates on net interest income and is monitored on a quarterly basis. We also monitor regulatory required interest rate risk analysis which simulates more dramatic changes to rates.

The Company’s strategy is to mitigate interest risk to the greatest extent possible. Based on our analysis of the Company’s overall risk to changes in interest rates, we structure investment and funding transactions to reduce this risk. These strategies aim to achieve neutrality to interest rate risk. Although we strive to have our net interest income neutral to changes in rates, due to the inherent nature of our business, we will never be completely neutral to changes in rates. As of June 30, 2010, a drop in interest rates would increase our net interest income and an increase in rates would increase our net interest income, also known as liability sensitive. During 2008 and 2009, we put minimum interest rate requirements, also known as floors, in our prime-based floating rate loans. These floors are generally 200 to 300 basis points above their current index rate. These floors allowed us to earn a higher rate of interest than we would have otherwise earned during 2008, 2009 and the first six months of 2010. However, due to these floors, many of our loans will not reprice when rates rise, until the increase in rates exceeds the loan floor. This lag in repricing is part of the reason we are liability sensitive over the next year in a rising rate environment. We feel that the level of interest rate risk is at an acceptable level, and is within our internal policy limits.

The Company maintains a risk management committee which monitors and analyzes interest rate risk. This committee is comprised of members of senior management and outside directors. This committee meets on a monthly basis and reviews the simulations listed above, as well as other interest rate risk reports.

ITEM 3. QUANTITAVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (Continued)

The following table sets forth the distribution of the repricing of our earning assets and interest-bearing liabilities as of June 30, 2010, the interest rate sensitivity gap (i.e., interest rate sensitive assets divided by interest rate sensitivity liabilities), the cumulative interest rate sensitivity gap ratio (i.e., interest rate sensitive assets divided by interest rate sensitive liabilities) and the cumulative sensitivity gap ratio. The table also sets forth the time periods in which earning assets and liabilities will mature or may reprice in accordance with their contractual terms. However, the table does not necessarily indicate the impact of general interest rate movements on the net interest margin since the repricing of various categories of assets and liabilities is subject to competitive pressures and the needs of our customers. In addition, various assets and liabilities indicated as repricing within the same period may in fact reprice at different times within such period and at different rates.


	At June 30, 2010
	Maturing or Repricing Within
	(Dollars in thousands)
	Zero to Three			Three Months			One to Five			Over Five
	Months			to One Year			Years			Years		Total
Earning assets:
Short-term assets	$	35,038		$	—		$	—		$	—	$	35,038
Investment Securities		13,818			42,659			71,789			28,093		156,359
Loans held for sale		448			—			—			—		448
Loans		131,048			52,755			152,688			52,246		388,737

		180,352			95,414			224,477			80,339		580,582


Interest-bearing liabilities:
Interest-bearing demand deposits		103,279			—			—			—		103,279
Savings and money market		197,894			—			—			—		197,894
Time Deposits		30,359			78,039			56,404			3,516		168,318
Other Borrowings		33,954			—			—			—		33,954
FHLB Advances		—			7,500			10,000			25,000		42,500

		365,486			85,539			66,404			28,516		545,945


Interest rate sensitivity gap	$	(185,134	)	$	9,875		$	158,073		$	51,823	$	34,637

Cumulative interest rate sensitivity gap	$	(185,134	)	$	(175,259	)	$	(17,186	)	$	34,637


Interest rate sensitivity gap ratio		0.49			1.12			3.38			2.82

Cumulative interest rate sensitivity gap ratio		0.49			0.61			0.97			1.06

ITEM 3. QUANTITAVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (Continued)

The following table shows the results of our projections for net interest income expressed as a percentage change over net interest income in a flat rate scenario for an immediate change or “shock” in market interest rates over a twelve month period. Due to the historically low level of interest rates, we do not believe downward shocks greater than 50 basis points are relevant. In addition, due to the historically low interest rate environment, there is concern that we may say dramatic increases in interest rates when they begin to rise. To address this concern, we increased our upward interest rates shocks to include a shock of 400 basis points.


	Effect
Market	on Net
Rate	Interest
Change	Income
+400		-13.4	%
+300		-13.6	%
+200		-13.8	%
+100		-6.9	%
-50		2.4	%

ITEM 4. CONTROLS AND PROCEDURES

Not applicable.

ITEM 4T. CONTROLS AND PROCEDURES

We maintain a system of disclosure controls and procedures (as defined in Rule 13(a)-15(e) under the Securities Exchange Act (the “Exchange Act”)) that is designed to provide reasonable assurance that information required to be disclosed by us in the reports that we file under the Exchange act is recorder, processed, summarize and reported accurately and within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate. An evaluation of our disclosure controls and procedures was carried out as of June 30, 2010, under the supervision and with the participation of our principal executive officer, and other members of senior management.

Our principal executive officer and principal financial officer concluded that, as of June 30, 2010, our disclosure controls and procedures were effective in ensuring that the information we are required to disclose in the reports we file or submit under the Exchange Act is (i) accumulated and communicated to our management (including the principal executive officer and principal financial officer) to allow timely decisions regarding required disclosure, and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

We intend to continually review and evaluate the design and effectiveness of the Company’s disclosure controls and procedures and to improve the Company’s controls and procedures over time and to correct any deficiencies that we may discover in the future. The goal is to ensure that senior management has timely access to all material financial and non-financial information concerning the Company’s business. While we believe the present design of the disclosure controls and procedures is effective to achieve its goal, future events affecting its business may cause the Company to modify its disclosure controls and procedures.

ITEM 4T. CONTROLS AND PROCEDURES (Continued)

We do not expect that our controls and procedures over financial reporting will prevent all errors and all fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met. Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns in controls or procedures can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any control procedure also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of change in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.

There were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Act) that occurred during the quarter ended June 30, 2010, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II — OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

In the normal course of business, the Company occasionally becomes involved in various legal proceedings. In our opinion, any liability from such proceedings would not have a material adverse effect on the business or financial condition of the Company.

ITEM 1A. RISK FACTORS

Not required, registrant is a smaller reporting company.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

There were no unregistered sales of equity securities during the quarter ended June 30, 2010.

On December 16, 2008, the Company announced that its Board of Directors had authorized the repurchase of up to 250,000 shares, or approximately 10% of its then outstanding publicly held shares of common stock over a one-year period. This program has been extended to expire on December 31, 2010. As of June 30, 2010, the Company had purchased 77,604 shares at a weighted average price of $8.35 per share under the plan for a total of $648,000. As of June 30, 2010, the Company had 172,396 remaining shares that may be purchased under the current authorization. The repurchases may be made from time to time in open-market or negotiated transactions as deemed appropriate by the Company and will depend on market conditions.


					Number of		Maximum
	Total				Shares Purchased		Number of Shares
	Number				as Part of		that may yet be
	of Shares		Average Price		Publicly Announced		Purchased Under the
	Purchased		Paid Per Share		Plans or Programs		Plans or Programs
April		—	$	—		—		173,974
May		—		—		—		173,974
June		1,578		11.98		1,578		172,396

Total		1,578	$	11.98		1,578		172,396

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4.(REMOVED AND RESERVED)

None.

ITEM 5.OTHER INFORMATION

None.

ITEM 6.EXHIBITS


		Reference to
		Prior Filing
		or Exhibit Number
Exhibit Number	Document	Attached Hereto
2.0	Plan of acquisition, reorganization, arrangement, liquidation, or succession	++++

3.1	Charter of the Registrant	***

3.2	Bylaws of the Registrant	*

4	Instruments defining the rights of security holders, including indentures:

	Form of Heritage Financial Group Common Stock Certificate	**

10	Material contracts:

	(1) Employment Agreements:

	(a) (i) O. Leonard Dorminey — Bank	*

	(a) (ii) O. Leonard Dorminey — Holding Company	*

	(c) Carol W. Slappey	*

	(2) Deferred Compensation and Excess/Matching Contribution Plans	*

	(3) Supplemental Executive Retirement Plan	*

	(4) Directors’ Retirement Plan	*

	(5) 401(k) Savings Plan	**

	(6) Employee Stock Ownership Plan	*

	(7) Purchase and Assumption Agreement dated September 1, 2009, between HeritageBank of the South and Atlantic Coast Federal Bank	+

	(8) Definitive Whole-bank Purchase and Assumption Agreement dated December 4, 2009, between HeritageBank of the South and the Federal Deposit Insurance Corporation	++

	(9) Purchase and Assumption Agreement dated February 23, 2010, between HeritageBank of the South and The Park Avenue Bank	+++

11	Statement re: computation of per share earnings	None

15	Letter re: unaudited interim financial information	None

18	Letter re: change in accounting principles	None

22	Published report regarding matters submitted to vote of security holders	None

23	Consent of Accountants	None

24	Power of Attorney	None

31	Rule 13a-14(a)/15d-14(a) Certifications	31

32	Section 1350 Certifications	32


*		Filed as an exhibit to the Registrant’s Registration Statement on Form SB-2 (File No. 333-123581), declared effective by the SEC on May 16, 2005.

**		Filed as an exhibit to Pre-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form SB-2. (File No. 333-123581) declared effective by the SEC on May 16, 2005.

***		Filed as an exhibit to the Filer’s Form 10-KSB for the year ended December 31, 2005, filed with the SEC on March 30, 2006.

+		Included as an exhibit to the Form 8-K filed with the SEC on September 2, 2009.

++		Included as an exhibit to the Form 8-K filed with the SEC on December 8, 2009.

+++		Included as an exhibit to the Form 8-K filed with the SEC on February 25, 2010.

++++		Included as an exhibit to the Form 8-K filed with the SEC on March 19, 2010.

SIGNATURES

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


	HERITAGE FINANCIAL GROUP

Date: August 23, 2010	By:	/s/ O. Leonard Dorminey O. Leonard Dorminey
		President and Chief Executive Officer

Date: August 23, 2010	By:	/s/ T. Heath Fountain T. Heath Fountain
		Senior Vice President and
		Chief Financial Officer

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Heritage Financial Inactive 10-Q2010 Q2 Quarterly report

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