Southeastern Bank Financial 10Q 2013 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x	Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 2013.

o	Transition Report under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from _______________ to ________________.

Commission File No. 0-24172

	Southeastern Bank Financial Corporation
(Exact name of registrant as specified in its charter)

	Georgia			58-2005097
(State of Incorporation)			(I.R.S. Employer Identification No.)

	3530 Wheeler Road, Augusta, Georgia 30909
	(Address of principal executive offices)

	(706) 738-6990
(Issuer’s telephone number, including area code)

	Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

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

Indicate by check mark whether the registrant 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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the issuer 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 filer o	Non-accelerated filer o
	(do not check if a smaller reporting company)

Accelerated filer o	Smaller reporting company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act): Yes o No x

APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

6,679,426 shares of common stock, $3.00 par value per share, outstanding as of July 24, 2013.


SOUTHEASTERN BANK FINANCIAL CORPORATION
FORM 10-Q
INDEX
			Page
Part I

	Item 1.	Financial Statements (Unaudited)

		Consolidated Balance Sheets as of June 30, 2013 and December 31, 2012	3

		Consolidated Statements of Comprehensive Income for the Three and Six Months ended June 30, 2013 and 2012	4

		Consolidated Statements of Cash Flows for the Six Months ended June 30, 2013 and 2012	6

		Notes to Consolidated Financial Statements	8

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	49

	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	73

	Item 4.	Controls and Procedures	73

Part II Other Information

	Item 1.	Legal Proceedings	74
	Item 1A.	Risk Factors	74
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	74
	Item 3.	Defaults Upon Senior Securities	74
	Item 4.	Mine Safety Disclosures	74
	Item 5.	Other Information	74
	Item 6.	Exhibits	75

Signature			76

* No information submitted under this caption

PART I

FINANCIAL INFORMATION

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Balance Sheets

(Dollars in thousands, except share data)


	June 30,
	2013			December 31,
Assets	(Unaudited)			2012
Cash and due from banks	$	40,979		$	39,566
Interest-bearing deposits in other banks		3,346			4,322
Cash and cash equivalents		44,325			43,888
Available-for-sale securities		678,570			654,739
Loans held for sale		30,905			30,051
Loans		872,523			871,447
Less allowance for loan losses		27,254			28,846
Loans, net		845,269			842,601

Premises and equipment, net		25,967			26,145
Accrued interest receivable		6,671			6,603
Bank-owned life insurance		35,396			34,825
Restricted equity securities		4,870			5,296
Other real estate owned		1,096			3,490
Prepaid FDIC assessment		-			2,024
Deferred tax asset		17,364			10,406
Other assets		3,468			2,434
	$	1,693,901		$	1,662,502
Liabilities and Stockholders’ Equity
Deposits
Noninterest-bearing	$	177,005		$	158,066
Interest-bearing:
NOW accounts		349,120			349,531
Savings		517,454			504,194
Money management accounts		16,531			18,033
Time deposits over $100		274,513			280,871
Other time deposits		108,270			110,577
		1,442,893			1,421,272

Securities sold under repurchase agreements		10,718			976
Advances from Federal Home Loan Bank		64,000			64,000
Accrued interest payable and other liabilities		16,912			18,924
Due to broker		6,480			-
Subordinated debentures		21,547			21,547
Total liabilities		1,562,550			1,526,719

Stockholders’ equity:
Preferred stock, no par value; 10,000,000 shares authorized; 0 shares outstanding in 2013 and 2012, respectively		-			-
Common stock, $3.00 par value; 10,000,000 shares authorized; 6,680,225 and 6,680,225 shares issued in 2013 and 2012, respectively; 6,678,807 and 6,675,000 shares outstanding in 2013 and 2012, respectively		20,041			20,041
Additional paid-in capital		62,853			62,835
Retained earnings		51,939			45,028
Treasury stock, at cost; 1,418 and 5,225 shares in 2013 and 2012, respectively		(20	)		(73	)
Accumulated other comprehensive income (loss), net		(3,462	)		7,952
Total stockholders’ equity		131,351			135,783
	$	1,693,901		$	1,662,502

See accompanying notes to consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Comprehensive Income

(Dollars in thousands, except share data)

(Unaudited)


	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2013			2012			2013			2012
Interest income:
Loans, including fees	$	11,744		$	11,558		$	23,435		$	23,218
Investment securities		3,897			4,422			7,879			8,667
Interest-bearing deposits in other banks		21			22			37			47
Total interest income		15,662			16,002			31,351			31,932
Interest expense:
Deposits		1,683			2,377			3,513			5,091
Securities sold under repurchase agreements		1			8			2			9
Other borrowings		676			631			1,345			1,227
Total interest expense		2,360			3,016			4,860			6,327

Net interest income		13,302			12,986			26,491			25,605
Provision for loan losses		2,414			1,950			4,159			4,166
Net interest income after provision for loan losses		10,888			11,036			22,332			21,439

Noninterest income:
Service charges and fees on deposits		1,794			1,685			3,468			3,296
Gain on sales of loans		2,155			2,362			4,057			4,318
Gain on sale of fixed assets, net		16			8			21			6
Investment securities gains (losses), net (includes $15 and $92 for the three months ended June 30, 2013 and 2012 and ($29) and $469 for the six months ended June 30, 2013 and 2012 accumulated other comprehensive income reclassifications for unrealized gains (losses) on available-for-sale securities)		15			101			(29	)		478
Other-than-temporary loss
Total impairment loss		-			(13	)		-			(13	)
Less loss recognized in other comprehensive income		-			(4	)		-			(4	)
Net impairment loss recognized in earnings		-			(9	)		-			(9	)
Retail investment income		487			505			988			1,027
Trust service fees		284			288			589			577

Earnings from cash surrender value of bank-owned life insurance		288			265			571			526
Miscellaneous income		187			176			375			366
Total noninterest income		5,226			5,381			10,040			10,585
Noninterest expense:
Salaries and other personnel expense		6,141			6,543			12,338			12,740
Occupancy expenses		939			1,043			1,874			2,097
Other real estate losses, net		207			688			617			1,349
Other operating expenses		3,001			3,330			6,219			6,278
Total noninterest expense		10,288			11,604			21,048			22,464

Income before income taxes		5,826			4,813			11,324			9,560
Income tax expense		1,824			1,452			3,545			2,897
Net income	$	4,002		$	3,361		$	7,779		$	6,663

Other comprehensive income (loss):
Unrealized gain (loss) on derivatives		781			(839	)		1,125			(358	)
Unrealized gain (loss) on securities available-for-sale		(18,928	)		4,879			(19,834	)		4,727
Reclassification adjustment for realized (gain) loss on securities, net of OTTI		(15	)		(92	)		29			(469	)
Tax effect		7,065			(1,535	)		7,266			(1,517	)
Total other comprehensive income (loss)		(11,097	)		2,413			(11,414	)		2,383
Comprehensive income (loss)	$	(7,095	)	$	5,774		$	(3,635	)	$	9,046

Consolidated Statements of Comprehensive Income

(Dollars in thousands, except share data)

(Unaudited)


	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2013		2012		2013		2012

Basic net income per share	$	0.60	$	0.50	$	1.16	$	1.00

Diluted net income per share		0.60		0.50		1.16		1.00

Weighted average common shares outstanding		6,678,807		6,679,371		6,678,112		6,678,927

Weighted average number of common and common equivalent shares outstanding		6,678,807		6,679,371		6,678,112		6,678,927

See accompanying notes to consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Cash Flows

(Dollars in thousands)

(Unaudited)


	Six Months Ended
	June 30,
	2013			2012
Cash flows from operating activities:
Net income	$	7,779		$	6,663
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation		930			1,104
Deferred income tax expense (benefit)		309			(317	)
Provision for loan losses		4,159			4,166
Net investment securities (gains) losses		29			(478	)
Other-than-temporary impairment losses		-			9
Net amortization of premiums on investment securities		2,702			2,300
Earnings from CSV of bank-owned life insurance		(571	)		(526	)
Stock options compensation cost		3			22
Gain on disposal of premises and equipment		(21	)		(6	)
Loss on the sale of other real estate		69			852
Provision for other real estate valuation allowance		548			497
Gain on sales of loans		(4,057	)		(4,318	)
Real estate loans originated for sale		(131,360	)		(138,930	)
Proceeds from sales of real estate loans		134,563			145,666
Increase in accrued interest receivable		(68	)		(261	)
Decrease (increase) in other assets		990			(797	)
(Decrease) increase in accrued interest payable and other liabilities		(887	)		552
Net cash provided by operating activities		15,117			16,198

Cash flows from investing activities:
Proceeds from sales of securities		74,215			62,320
Proceeds from maturities and calls of available-for-sale securities		58,444			118,661
Purchase of available-for-sale securities		(172,547	)		(240,164	)
Purchase of restricted equity securities		-			(500	)
Proceeds from redemption of FHLB stock		426			187
Net increase in loans		(7,134	)		(12,031	)
Additions to premises and equipment		(770	)		(285	)
Proceeds from sale of other real estate		2,084			3,710
Proceeds from sale of premises and equipment		39			8
Net cash used in investing activities		(45,243	)		(68,094	)

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Cash Flows

(Dollars in thousands)

(Unaudited)


	Six Months Ended June 30,
	2013			2012

Cash flows from financing activities:
Net increase in deposits		21,621			15,793
Net increase (decrease) in securities sold under repurchase agreements		9,742			(37	)
Advances from Federal Home Loan Bank		-			27,000
Payments on subordinated debentures		-			(1,400	)
Payment of cash dividends		(868	)		-
Proceeds from stock options exercised		43			-
Proceeds from Directors’ stock purchase plan		25			19
Net cash provided by financing activities		30,563			41,375

Net increase (decrease) in cash and cash equivalents		437			(10,521	)
Cash and cash equivalents at beginning of period		43,888			69,841
Cash and cash equivalents at end of period	$	44,325		$	59,320

Supplemental disclosures of cash paid during the period for:
Interest	$	4,982		$	6,273
Income taxes		4,365			3,683

Supplemental information on noncash investing activities:
Loans transferred to other real estate owned	$	307		$	6,623
Loans provided for sales of other real estate owned		11			941
Due to broker		6,480			-

See accompanying notes to consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Notes to Consolidated Financial Statements

(Dollar amounts are expressed in thousands unless otherwise noted)

June 30, 2013

Note 1 – Summary of Significant Accounting Policies

(a) Basis of Presentation

The accompanying consolidated financial statements include the accounts of Southeastern Bank Financial Corporation (the “Company”), and its wholly-owned subsidiary, Georgia Bank & Trust Company of Augusta (“GB&T”). Significant intercompany transactions and accounts are eliminated in consolidation. Dollar amounts are rounded to thousands except share and per share data.

The financial statements for the three and six months ended June 30, 2013 and 2012 are unaudited and have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and footnotes included in the Company’s annual report on Form 10-K for the year ended December 31, 2012.

In the opinion of management, all adjustments necessary to present fairly the financial position and the results of operations and cash flows for the interim periods have been made. All such adjustments are of a normal recurring nature. The results of operations for the three and six months ended June 30, 2013 are not necessarily indicative of the results of operations which the Company may achieve for the entire year.

Some items in the prior period financial statements were reclassified to conform to the current presentation.

(b) Loans and Allowance for Loan Losses

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal balance outstanding, net of deferred loan fees and costs, and an allowance for loan losses. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized in interest income using the level-yield method without anticipating prepayments.

Non-Accrual Loan Procedures:

Interest income on loans of all segments and classes are generally discontinued at the time the loan is 90 days delinquent unless the loan is well-secured and in process of collection. Consumer loans are typically charged off no later than 120 days past due. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal or interest is considered doubtful. Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans. A loan is moved to non-accrual status in accordance with the Company’s policy, typically after 90 days of non-payment as measured from the loan’s contractual due date.

All interest, accrued but not received, for loans placed on nonaccrual is reversed against interest income. Interest received on such loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual. Subsequent payments of interest are recognized on the cash basis as income when full collection of principal is expected. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured and there is a period of at least 6 months of repayment performance (1 year for loans providing for quarterly or semi-annual payments) by the borrower in accordance with contractual terms.

Concentration of Credit Risk:

Most of the Company’s business activity is with customers located within the Augusta-Richmond County, GA-SC metropolitan statistical area. Therefore, the Company’s exposure to credit risk is significantly affected by changes in the economy in this area. The Company also has a significant concentration of loans with real estate developers.

Allowance for Loan Losses:

The allowance for loan losses (ALLL) is a valuation allowance for probable incurred credit losses. The allowance for loan losses is established through a provision for loan losses charged to expense. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off. The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired.

Impaired Loans and Troubled Debt Restructurings:

A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due (both principal and interest) according to the contractual terms of the loan agreement. Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

All lending relationships over $500 are individually evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans are collectively evaluated for impairment, and accordingly, they are not separately identified for impairment disclosures. Troubled debt restructurings are separately identified for impairment disclosures and are measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a troubled debt restructuring is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral. For troubled debt restructurings that subsequently default, the Company determines the amount of reserve in accordance with the accounting policy for the allowance for loan losses.

The following portfolio segments have been identified:

●

Acquisition Development and Construction (“ADC”) – CSRA

●

ADC – Other

●

Commercial Real Estate – Non owner occupied

●

Commercial Real Estate – Owner occupied

●

1-4 Family

●

Consumer

The following is a discussion of the risks characteristics of these portfolio segments.

Acquisition, Development & Construction (ADC) – CSRA (Primary Market) – ADC lending carries all of the normal risks involved in lending including the changing nature of borrower and guarantor financial conditions and the knowledge that the sale of the completed lots and/or structures is likely the sole source of repayment as opposed to other forms of borrower cash flow. In addition, this type of lending carries several additional risk factors including: (1) timely project completion (contractor financial condition, commodity prices, weather delays, prospective tenant financial condition); (2) market factors (changing economic conditions, unemployment rates, end-user financing availability, interest rates); (3) competition (similar product availability, bank foreclosed properties); and (4) end-product price stability.

ADC – Other – ADC lending in all other markets carries all of the ADC risks outlined for the CSRA plus the additional risk of lending outside of the Company’s traditional market area where our knowledge of these markets may not be as well developed.

Commercial Real Estate – Non Owner Occupied – This lending category includes loans for multi-family, office, warehouse, retail, hotel/motel and other non-owner occupied properties. Loans in this category carry more risk than owner-occupied properties because the property’s cash flow is not derived from the owner of the property’s business, but from unrelated tenants. These outside tenants are each subject to their own set of business risks depending upon their own financial situation, competitors, industry segment and general economic conditions. Therefore, the cash flow from the property in the form of rent may not be as stable as a one-user, owner-occupied property.

Commercial Real Estate – Owner Occupied – This portfolio segment includes loans to finance office buildings, retail establishments, warehouses, convenience stores, churches, schools, daycare facilities, restaurants, health care facilities, golf courses and other owner-occupied properties. Loans in this category generally carry less risk than non-owner occupied properties because the cash flow to service the property’s debt is derived from the owner of the property’s business as opposed to unrelated third-party tenants. The cash flows and property values for one-user, owner-occupied properties tend to be more stable because they are based upon the operation of the owner’s business as opposed to rent from a variety of smaller tenants (each of which carries its own set of business and market risks).

1-4 Family – This lending category includes loans secured by improved residential real estate. Loans in this category are affected by local real estate markets, local & national economic factors affecting borrowers’ employment prospects & income levels, and levels & movement of interest rates and the general availability of mortgage financing.

Consumer – This portfolio segment includes loans secured by consumer goods (e.g. vehicles, recreational products, equipment, etc.), but also may be unsecured. Similar to the 1-4 family category, this segment of the loan portfolio depends on a variety of local & national economic factors affecting borrowers’ employment prospects, income levels and overall economic sentiment.

The allowance is an amount that management believes will be adequate to absorb probable incurred losses on existing loans that become uncollectible, based on evaluations of the collectability of loans. The evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, historical loss rates, overall portfolio quality, review of specific problem loans, and current economic conditions and trends that may affect a borrower’s ability to pay. The allowance is evaluated on a regular basis utilizing estimated loss factors for specific types of loans. Such loss factors are periodically reviewed and adjusted as necessary based on actual losses.

While management uses available information to recognize losses on loans, future additions to the allowance 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 Company’s allowance for loan losses. Such agencies may advise the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

The process of assessing the adequacy of the allowance is necessarily subjective. Further, and particularly in terms of economic downturns, it is reasonably possible that future credit losses may exceed historical loss levels and may also exceed management’s current estimates of probable incurred credit losses inherent within the loan portfolio. As such, there can be no assurance that future loan charge-offs will not exceed management’s current estimate of the allowance for loan losses.

ALLL Methodology:

The Company’s approach to ALLL reserve calculation uses two distinct perspectives, the guidelines of using Financial Accounting Standards ASC 450 (Accounting for Contingencies) and ASC 310 (Accounting by Creditors for Impairment of a Loan, for individual loans). The process is generally as follows and methodology applies to all classes of loans within the portfolio segments:

●

Loans are grouped in categories of similar risk characteristics (Portfolio segments)

●

For each loan category, a four year average rolling historical net loss rate is calculated, with the loss rate more heavily weighted to the most recent two years loss history. The historical loss ratios are adjusted for internal and external qualitative factors within each loan category. The qualitative factor adjustment may be further increased for loan classifications of watch rated and substandard within each category. Factors include:

levels and trends in delinquencies and impaired/classified/graded loans;

changes in the quality of the loan review system;

trends in volume and terms of loans;

effects of changes in risk selection and underwriting standards, and other changes in lending policies, procedures and practices;

experience, ability, and depth of lending management and other relevant staff;

national and local economic trends and conditions;

changes in the value of underlying collateral;

other external factors-competition, legal and regulatory requirements;

effects of changes in credit concentrations

●

The resultant loss factor is applied to each respective loan pool to calculate the ALLL for each loan pool.

●

The total of each loan pool is then added to the ALLL determined for individual loans evaluated for impairment in accordance with ASC 310.

There have been no changes to the methodology during 2013 and 2012.

Loans Held for Sale:

Mortgage loans held for sale are generally sold with servicing rights released. The Company originates mortgages to be held for sale only for loans that have been individually pre-approved by the investor. Mortgage loans originated and intended for sale in the secondary market are carried at fair value, as determined by outstanding commitments from investors.

Gains and losses on sales of mortgage loans are based on the difference between the selling price and the carrying value of the related loan sold.

The Company bears minimal interest rate risk on these loans and only holds the loans temporarily until documentation can be completed to finalize the sale to the investor.

Commitments to fund mortgage loans (interest rate locks) to be sold into the secondary market and forward commitments for the future delivery of these mortgage loans are accounted for as free standing derivatives. Fair values of these mortgage derivatives are estimated based on changes in mortgage interest rates from the date the interest on the loan is locked. The Company enters into forward commitments for the future delivery of mortgage loans when interest rate locks are entered into, in order to hedge the change in interest rates resulting from its commitments to fund the loans. Changes in the fair values of these derivatives are included in net gains on sales of loans. Fair values of these derivatives were $117 and $19 as of June 30, 2013 and December 31, 2012, respectively.

At the inception of a derivative contract, the Company designates the derivative as one of three types based on the Company’s intentions and belief as to likely effectiveness as a hedge. These three types are (1) a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value hedge”), (2) a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow hedge”), or (3) an instrument with no hedging designation (“stand-alone derivative”). For a fair value hedge, the gain or loss on the derivative, as well as the offsetting loss or gain on the hedged item, are recognized in current earnings as fair values change. For a cash flow hedge, the gain or loss on the derivative is reported in other comprehensive income and is reclassified into earnings in the same periods during which the hedged transaction affects earnings. For both types of hedges, changes in the fair value of derivatives that are not highly effective in hedging the changes in fair value or expected cash flows of the hedged item are recognized immediately in current earnings. Changes in the fair value of derivatives that do not qualify for hedge accounting are reported currently in earnings, as noninterest income.

Net cash settlements on derivatives that qualify for hedge accounting are recorded in interest income or interest expense, based on the item being hedged. Net cash settlements on derivatives that do not qualify for hedge accounting are reported in noninterest income. Cash flows on hedges are classified in the cash flow statement the same as the cash flows of the items being hedged.

The Company formally documents the relationship between derivatives and hedged items, as well as the risk-management objective and the strategy for undertaking hedge transactions at the inception of the hedging relationship. This documentation includes linking fair value or cash flow hedges to specific assets and liabilities on the balance sheet or to specific firm commitments or forecasted transactions. The Company also formally assesses, both at the hedge’s inception and on an ongoing basis, whether the derivative instruments that are used are highly effective in offsetting changes in fair values or cash flows of the hedged items. The Company discontinues hedge accounting when it determines that the derivative is no longer effective in offsetting changes in the fair value or cash flows of the hedged item, the derivative is settled or terminates, a hedged forecasted transaction is no longer probable, a hedged firm commitment is no longer firm, or treatment of the derivative as a hedge is no longer appropriate or intended.

When hedge accounting is discontinued, subsequent changes in fair value of the derivative are recorded as noninterest income. When a fair value hedge is discontinued, the hedged asset or liability is no longer adjusted for changes in fair value and the existing basis adjustment is amortized or accreted over the remaining life of the asset or liability. When a cash flow hedge is discontinued but the hedged cash flows or forecasted transactions are still expected to occur, gains or losses that were accumulated in other comprehensive income are amortized into earnings over the same periods which the hedged transactions will affect earnings.

(d) Recent Accounting Pronouncements

In February 2013, the FASB amended existing guidance to require an entity to provide information about amounts reclassified out of other comprehensive income by component. In addition, an entity is required to present, either on the face of the income statement where net income is presented or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income but only if the amount reclassified is required under United States generally accepted accounting principles to be reclassified to net income in its entirety in the same reporting period. For all other amounts, an entity is required to cross-reference to other disclosures that provide additional details about these amounts. The guidance is effective for all interim and annual reporting periods beginning after December 15, 2012. The adoption of the guidance did not have a material impact on the Company’s results of operation or financial position but did require expansion of the Company’s disclosures.

(e) Reclassifications

Some items in the prior period financial statements were reclassified to conform to the current presentation. Reclassifications had no effect on prior period net income or shareholders’ equity.

Note 2 – Investment Securities

The following tables summarize the amortized cost and fair value of the available-for-sale investment securities portfolio at June 30, 2013 and December 31, 2012 and the corresponding amounts of unrealized gains and losses therein.


	June 30, 2013
			Gross		Gross
	Amortized		unrealized		unrealized			Estimated
	cost		gains		losses			fair value
Available-for-sale	(Dollars in thousands)
Obligations of U.S. Government agencies	$	234,266		1,067		(5,354	)		229,979
Obligations of states and political subdivisions		144,956		3,039		(2,780	)		145,215
Mortgage backed securities
U.S. GSE’s* MBS - residential		128,936		1,298		(2,338	)		127,896
U.S. GSE’s CMO		58,425		865		(505	)		58,785
Corporate bonds		116,362		1,471		(1,138	)		116,695
	$	682,945		7,740		(12,115	)		678,570

* Government sponsored entities


	December 31, 2012
			Gross		Gross
	Amortized		unrealized		unrealized			Estimated
	cost		gains		losses			fair value
Available-for-sale	(Dollars in thousands)
Obligations of U.S. Government agencies	$	230,609		1,726		(279	)		232,056
Obligations of states and political subdivisions		127,913		8,269		(193	)		135,989
Mortgage backed securities
U.S. GSE’s MBS - residential		106,757		3,373		(10	)		110,120
U.S. GSE’s CMO		78,101		1,590		(93	)		79,598
Other CMO		1,915		28		(195	)		1,748
Corporate bonds		94,013		2,162		(947	)		95,228
	$	639,308		17,148		(1,717	)		654,739

As of June 30, 2013, in addition to the U.S. Government agencies and government sponsored entities, there were four issuers who represented 10% or more of stockholders’ equity within the investment portfolio. The Company’s holdings of investment securities issued by SunTrust Banks totaled $15,331 or 11.67% of stockholders’ equity at June 30, 2013. The Company also had holdings of investment securities issued by Wells Fargo totaling $13,768 or 10.48% of stockholders’ equity, GE Capital totaling $15,562 or 11.85% of stockholders’ equity and Goldman Sachs totaling $13,622 or 10.37% of stockholders’ equity at June 30, 2013.

As of December 31, 2012, in addition to the U.S. Government agencies and government sponsored entities, there were two issuers who represented 10% or more of stockholders’ equity within the investment portfolio. The Company’s holdings of investment securities issued by SunTrust Banks totaled $15,414 or 11.35% of stockholders’ equity at December 31, 2012. The Company also had holdings of investment securities issued by Wells Fargo totaling $13,931 or 10.26% of stockholders’ equity at December 31, 2012.

Proceeds from sales of securities available-for-sale and the associated gains (losses), excluding gains (losses) on called securities, for the three and six months ended June 30, 2013 and 2012 were as follows:


	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2013			2012			2013			2012
	(Dollars in thousands)						(Dollars in thousands)

Proceeds	$	26,216		$	29,669		$	74,215		$	62,320
Gross Gains		419			144			791			588
Gross Losses		(404	)		(56	)		(831	)		(123	)

The amortized cost and fair value of the investment securities portfolio excluding equity securities are shown by expected maturity. Expected maturities may differ from contractual maturities if borrowers have the right to call or prepay obligations with or without call or prepayment penalties.


	June 30, 2013
	Amortized		Estimated
	cost		fair value
	(Dollars in thousands)
Available-for-sale:
One year or less	$	2,040		2,068
After one year through five years		78,625		79,706
After five years through ten years		136,598		133,876
After ten years		465,682		462,920
	$	682,945		678,570

The following tables summarize the investment securities with unrealized losses at June 30, 2013 and December 31, 2012, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position.


	June 30, 2013
	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
	fair value		loss		fair value		loss		fair value		loss
Temporarily impaired	(Dollars in thousands)
Obligations of U.S. Government agencies	$	122,775		5,354		—		—		122,775		5,354
Obligations of states and political subdivisions		48,893		2,589		3,603		191		52,496		2,780
Mortgage backed securities
U.S. GSE’s MBS - residential		76,228		2,338		—		—		76,228		2,338
U.S. GSE’s CMO		22,334		505		—		—		22,334		505
Corporate bonds		51,858		723		4,605		415		56,463		1,138
	$	322,088		11,509		8,208		606		330,296		12,115


	December 31, 2012
	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
	fair value		loss		fair value		loss		fair value		loss
Temporarily impaired	(Dollars in thousands)
Obligations of U.S. Government agencies	$	68,680		279		—		—		68,680		279
Obligations of states and political subdivisions		14,202		193		—		—		14,202		193
Mortgage backed securities
U.S. GSE’s MBS - residential		2,047		10		—		—		2,047		10
U.S. GSE’s CMO		10,658		93		—		—		10,658		93
Other CMO		—		—		1,309		195		1,309		195
Corporate bonds		20,226		205		13,971		742		34,197		947
	$	115,813		780		15,280		937		131,093		1,717

Other-Than-Temporary Impairment – June 30, 2013

Management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. Investment securities classified as available-for-sale or held-to-maturity are generally evaluated for OTTI under the provisions of ASC 320-10, Investments – Debt and Equity Securities. In determining OTTI, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the entity has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.

When OTTI occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis. If an entity intends to sell or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in other comprehensive income or loss, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

As of June 30, 2013, the Company’s security portfolio consisted of 420 securities, 179 of which were in an unrealized loss position. Of these securities with unrealized losses, 32.86% were related to the Company’s mortgage-backed and corporate securities as discussed below.

Mortgage-backed Securities

At June 30, 2013, all of the Company’s mortgage-backed securities were issued by U.S. government-sponsored entities and agencies, primarily the Federal National Mortgage Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and the Government National Mortgage Association (“Ginnie Mae”), institutions which the government has affirmed its commitment to support. Because the decline in fair value is attributable to changes in interest rates and illiquidity, and not credit quality, and because the Company does not have the intent to sell these mortgage-backed securities and it is likely that it will not be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at June 30, 2013.

Corporate Securities

The Company holds fifty corporate securities totaling $116,695, of which twenty-six had an unrealized loss of $1,138 at June 30, 2013. The Company’s unrealized losses on corporate securities relate primarily to its investment in single issuer corporate and corporate trust preferred securities. At June 30, 2013, three securities to two issuers were not rated. None of the issuers were in default, but in January of 2011 the Company was notified that one trust preferred security totaling $250 to one issuer not rated had elected to defer interest payments. The issuer is a bank holding company with operations in the Southeast. The Company considered several factors including the financial condition and near term prospects of the issuer and concluded that the decline in fair value was primarily attributable to temporary illiquidity and the financial crisis affecting these markets and not necessarily the expected cash flows of the individual security. The Company has considered the capital position of the subsidiary banks, the liquidity of the holding company, the existence and severity of publicly available regulatory agreements, and the fact that these deferrals are coming after the most severe impact of the national and regional recession. The prospect of capital formation in the current market, improving operating results of the industry overall have caused the Company to conclude that a return to normal subsidiary dividends and thus interest payments on the debt for this issuer is reasonably assured at this time. Because the Company does not have the intent to sell these securities and it is likely that it will not be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at June 30, 2013.

At June 30, 2013, the fair value of one corporate security totaling $109 was measured using Level 3 inputs because the market for it has become illiquid, as indicated by few, if any, trades during the period. The discount rate used in the valuation model was based on a yield of 10% that the market would require for corporate debt obligations with maturities and risk characteristics similar to the subordinated debenture being measured.

The following table presents a rollforward of the credit losses recognized in earnings for the six month period ended June 30, 2013.


Beginning balance, January 1, 2013	$	586
Amounts related to credit loss for which an other-than-temporary impairment was not previously recognized		-
Additions/Subtractions
Amounts realized for securities sold during the period		(586	)
Amounts related to securities for which the company intends to sell or that it will be more likely than not that the company will be required to sell prior to recovery of amortized cost basis		-
Reductions for increase in cash flows expected to be collected that are recognized over the remaining life of the security		-
Increases to the amount related to the credit loss for which other-than-temporary impairment was previously recognized		-

Ending balance, June 30, 2013	$	-

Other-Than-Temporary Impairment – June 30, 2012

As of June 30, 2012, the Company’s security portfolio consisted of 378 securities, 62 of which were in an unrealized loss position. Of these securities with unrealized losses, 88.91% were related to the Company’s mortgage-backed and corporate securities as discussed below.

Mortgage-backed Securities

At June 30, 2012, $294,883 or approximately 99.33% of the Company’s mortgage-backed securities were issued by U.S. government-sponsored entities and agencies, primarily the Federal National Mortgage Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and the Government National Mortgage Association (“Ginnie Mae”), institutions which the government has affirmed its commitment to support. Because the decline in fair value is attributable to changes in interest rates and illiquidity, and not credit quality, and because the Company does not have the intent to sell these mortgage-backed securities and it is likely that it will not be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at June 30, 2012.

The Company’s mortgage-backed securities portfolio also includes five non-agency collateralized mortgage obligations with a market value of $1,978, of which four had unrealized losses of approximately $220 at June 30, 2012. These non-agency securities were rated AAA at purchase.

At June 30, 2012, four of these non-agency securities were rated below investment grade and a cash flow analysis was performed to evaluate OTTI. The assumptions used in the model include expected future default rates, loss severity and prepayments. The model also takes into account the structure of the security including credit support. Based on these assumptions, the model calculates and projects the timing and amount of interest and principal payments expected for the security. In addition, the model was used to “stress” each security, or make assumptions more severe than expected activity, to determine the degree to which assumptions could deteriorate before the security could no longer fully support repayment. Upon completion of the June 30, 2012 analysis, our model indicated that one of these securities was other-than-temporarily impaired. This security had OTTI losses of $9 and remained classified as available-for-sale at June 30, 2012.

At June 30, 2012, the fair values of these four collateralized mortgage obligations totaling $1,673 were measured using Level 3 inputs because the market for them has become illiquid, as indicated by few, if any, trades during the period. The discount rates used in the valuation model were based on a yield of 10% that the market would require for collateralized mortgage obligations with maturities and risk characteristics similar to the securities being measured.

Corporate Securities

The Company holds thirty-three corporate securities totaling $78,518, of which nineteen had an unrealized loss of $1,171 at June 30, 2012. The Company’s unrealized losses on corporate securities relate primarily to its investment in single issuer corporate and corporate trust preferred securities. At June 30, 2012, five securities to two issuers were not rated. None of the issuers were in default, but in January of 2011 the Company was notified that two trust preferred securities totaling $1,250 to two issuers not rated had elected to defer interest payments. The issuers are both bank holding companies with operations in the Southeast. One of the issuers of $1,000 of such securities announced a successful capital raise which was completed in the first quarter of 2011 and during the third quarter of 2011 this issuer brought current all interest previously deferred. The Company considered several factors including the financial condition and near term prospects of the issuers and concluded that the decline in fair value was primarily attributable to temporary illiquidity and the financial crisis affecting these markets and not necessarily the expected cash flows of the individual securities. Although one issuer continues to indicate they will defer payments going forward, the Company has considered the capital position of the subsidiary banks, the liquidity of the holding company, the existence and severity of publicly available regulatory agreements, and the fact that these deferrals are coming after the most severe impact of the national and regional recession. The prospect of capital formation in the current market, improving operating results of the industry overall have caused the Company to conclude that a return to normal subsidiary dividends and thus interest payments on the debt for this issuer is reasonably assured at this time. Because the Company does not have the intent to sell these securities and it is likely that it will not be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at June 30, 2012.

At June 30, 2012, the fair value of one corporate security totaling $107 was measured using Level 3 inputs because the market for it has become illiquid, as indicated by few, if any, trades during the period. The discount rate used in the valuation model was based on a yield of 10% that the market would require for corporate debt obligations with maturities and risk characteristics similar to the subordinated debenture being measured.

The table below presents a rollforward of the credit losses recognized in earnings for the six month period ended June 30, 2012.


Beginning balance, January 1, 2012	$	673
Amounts related to credit loss for which an other-than-temporary impairment was not previously recognized		-
Additions/Subtractions
Amounts realized for securities sold during the period		-
Amounts related to securities for which the company intends to sell or that it will be more likely than not that the company will be required to sell prior to recovery of amortized cost basis		-
Reductions for increase in cash flows expected to be collected that are recognized over the remaining life of the security		-
Increases to the amount related to the credit loss for which other-than-temporary impairment was previously recognized		9

Ending balance, June 30, 2012	$	682

Total other-than-temporary impairment recognized in accumulated other comprehensive income was $4 for the six month period ended June 30, 2012.

Note 3 – Loans

The following table summarizes loans at June 30, 2013 and December 31, 2012.


	June 30, 2013			December 31, 2012
	(Dollars in thousands)

Commercial, financial, and agricultural	$	177,108			174,553
Real estate:
Commercial		339,472			343,663
Residential		167,828			168,039
Acquisition, development and construction		174,686			171,750
Consumer installment		13,366			13,392
	$	872,460			871,397

Less allowance for loan losses		27,254			28,846
Less deferred loan origination fees (costs)		(63	)		(50	)
	$	845,269			842,601

The following tables present the activity in the allowance for loan losses by portfolio segment as of and for the three and six month periods ended June 30, 2013 and June 30, 2012.


	Three Months Ended June 30, 2013
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	5,000			7,188			3,613			5,671			4,287			2,626			546			28,931
Charge-offs		(26	)		(2,859	)		(70	)		(424	)		(55	)		(735	)		(101	)		(4,270	)
Recoveries		21			—			13			25			50			5			65			179
Provision		(216	)		2,706			(338	)		193			112			(91	)		48			2,414
Ending balance	$	4,779			7,035			3,218			5,465			4,394			1,805			558			27,254


	Three Months Ended June 30, 2012
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	4,166			6,657			4,512			5,659			4,091			3,933			616			29,634
Charge-offs		(298	)		(886	)		(118	)		(270	)		(67	)		(292	)		(241	)		(2,172	)
Recoveries		16			1			—			45			—			—			78			140
Provision		901			930			(527	)		387			94			(5	)		170			1,950
Ending balance	$	4,785			6,702			3,867			5,821			4,118			3,636			623			29,552


	Six Months Ended June 30, 2013
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	4,368			6,825			4,047			5,677			4,533			2,903			493			28,846
Charge-offs		(319	)		(2,859	)		(75	)		(791	)		(1,175	)		(735	)		(296	)		(6,250	)
Recoveries		58			8			13			35			50			112			223			499
Provision		672			3,061			(767	)		544			986			(475	)		138			4,159
Ending balance	$	4,779			7,035			3,218			5,465			4,394			1,805			558			27,254


	Six Months Ended June 30, 2012
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	4,183			6,285			4,476			5,607			4,236			3,819			440			29,046
Charge-offs		(658	)		(1,049	)		(368	)		(610	)		(258	)		(710	)		(473	)		(4,126	)
Recoveries		179			2			7			67			22			1			188			466
Provision		1,081			1,464			(248	)		757			118			526			468			4,166
Ending balance	$	4,785			6,702			3,867			5,821			4,118			3,636			623			29,552

The following tables present the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of June 30, 2013 and December 31, 2012.


	June 30, 2013
	Commercial,
	Financial, and		CRE - Owner		CRE - Non Owner		Residential		ADC		ADC
	Agricultural		Occupied		Occupied		Real Estate		CSRA		Other		Consumer		Total
	(Dollars in thousands)
Allowance for loan losses:
Ending balance attributable to loans:
Individually evaluated for impairment	$	—		—		—		—		—		—		—		—
Collectively evaluated for impairment		4,779		7,035		3,218		5,465		4,394		1,805		558		27,254
	$	4,779		7,035		3,218		5,465		4,394		1,805		558		27,254

Loans:
Individually evaluated for impairment		400		2,909		12,278		4,454		6,151		7,644		—		33,836
Collectively evaluated for impairment		176,708		205,593		118,692		163,374		140,665		20,226		13,366		838,624
	$	177,108		208,502		130,970		167,828		146,816		27,870		13,366		872,460


	December 31, 2012
	Commercial,
	Financial, and		CRE - Owner		CRE - Non Owner		Residential		ADC		ADC
	Agricultural		Occupied		Occupied		Real Estate		CSRA		Other		Consumer		Total
	(Dollars in thousands)
Allowance for loan losses:
Ending balance attributable to loans:
Individually evaluated for impairment	$	—		—		—		—		—		—		—		—
Collectively evaluated for impairment		4,368		6,825		4,047		5,677		4,533		2,903		493		28,846
	$	4,368		6,825		4,047		5,677		4,533		2,903		493		28,846

Loans:
Individually evaluated for impairment		1,067		298		12,619		5,467		8,098		1,968		9		29,526
Collectively evaluated for impairment		173,486		206,083		124,663		162,572		136,514		25,170		13,383		841,871
	$	174,553		206,381		137,282		168,039		144,612		27,138		13,392		871,397

The following tables present loans individually evaluated for impairment by class of loans as of June 30, 2013 and December 31, 2012.

	June 30, 2013
	Unpaid				Allowance for		Average
	Principal		Recorded		Loan Losses		Recorded
	Balance		Investment (2)		Allocated		Investment
	(Dollars in thousands)
With no related allowance recorded: (1)
Commercial, financial, and agricultural:
Commerical	$	204		118		—		122
Financial		—		—		—		—
Agricultural		317		282		—		293
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		5,632		2,909		—		5,273
Non Owner occupied		12,710		12,278		—		12,330
Residential real estate:
Secured by first liens		6,201		4,265		—		3,856
Secured by junior liens		259		189		—		193
Acquisition, development and construction:
Residential		—		—		—		—
Other		21,820		13,795		—		14,919
Consumer		—		—		—		—
		47,143		33,836		—		36,986
With an allowance recorded:
Commercial, financial, and agricultural:
Commerical		—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		—		—		—		—
Non Owner occupied		—		—		—		—
Residential real estate:
Secured by first liens		—		—		—		—
Secured by junior liens		—		—		—		—
Acquisition, development and construction:
Residential		—		—		—		—
Other		—		—		—		—
Consumer		—		—		—		—
		—		—		—		—
	$	47,143		33,836		—		36,986

(1) No specific allowance for credit losses is allocated to these loans since they are sufficiently collateralized or had charge-offs

(2) Excludes accrued interest receivable and loan origination fees, net due to immateriality

	December 31, 2012
	Unpaid				Allowance for		Average
	Principal		Recorded		Loan Losses		Recorded
	Balance		Investment (2)		Allocated		Investment
	(Dollars in thousands)
With no related allowance recorded: (1)
Commercial, financial, and agricultural:
Commerical	$	449		179		—		319
Financial		—		—		—		—
Agricultural		333		307		—		332
Equity lines		581		581		—		579
Other		—		—		—		—
Commercial real estate:
Owner occupied		304		298		—		323
Non Owner occupied		13,019		12,619		—		12,934
Residential real estate:
Secured by first liens		7,408		5,242		—		5,856
Secured by junior liens		292		225		—		242
Acquisition, development and construction:
Residential		—		—		—		—
Other		15,191		10,066		—		12,977
Consumer		14		9		—		21
		37,591		29,526		—		33,583

With an allowance recorded:
Commercial, financial, and agricultural:
Commerical		—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		—		—		—		—
Non Owner occupied		—		—		—		—
Residential real estate:
Secured by first liens		—		—		—		—
Secured by junior liens		—		—		—		—
Acquisition, development and construction:
Residential		—		—		—		—
Other		—		—		—		—
Consumer		—		—		—		—
		—		—		—		—
	$	37,591		29,526		—		33,583

(1) No specific allowance for credit losses is allocated to these loans since they are sufficiently collateralized or had charge-offs

(2) Excludes accrued interest receivable and loan origination fees, net due to immateriality

The following tables present interest income on impaired loans for the three and six months ended June 30, 2013 and June 30, 2012.

	Three Months Ended June 30, 2013				Six Months Ended June 30, 2013
	Interest		Cash Basis		Interest		Cash Basis
	Income		Interest Income		Income		Interest Income
	Recognized		Recognized		Recognized		Recognized
	(Dollars in thousands)				(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		—		—		—		—
Non Owner occupied		82		82		198		198
Residential real estate:
Secured by first liens		4		4		8		8
Secured by junior liens		1		1		3		3
Acquisition, development and construction:
Residential		—		—		—		—
Other		9		9		20		20
Consumer		—		—		—		—
	$	96		96		229		229

	Three Months Ended June 30, 2012				Six Months Ended June 30, 2012
	Interest		Cash Basis		Interest		Cash Basis
	Income		Interest Income		Income		Interest Income
	Recognized		Recognized		Recognized		Recognized
	(Dollars in thousands)				(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		2		2		5		5
Non Owner occupied		25		25		43		43
Residential real estate:
Secured by first liens		—		—		—		—
Secured by junior liens		1		1		2		2
Acquisition, development and construction:
Residential		—		—		—		—
Other		—		—		—		—
Consumer		—		—		—		—
	$	28		28		50		50

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

The following tables present the aging of the recorded investment in past due loans as of June 30, 2013 and December 31, 2012 by class of loans.

	June 30, 2013
	30 - 89 Days		90 Days or		Nonaccrual		Total		Loans Not
	Past Due		More Past Due		Loans		Past Due		Past Due		Total
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	320		—		180		500		109,626		110,126
Financial		—		—		—		—		2,695		2,695
Agricultural		—		—		282		282		9,446		9,728
Equity lines		—		—		536		536		35,341		35,877
Other		—		—		75		75		18,607		18,682
Commercial real estate:
Owner occupied		50		—		2,771		2,821		205,681		208,502
Non Owner occupied		542		—		8,463		9,005		121,965		130,970
Residential real estate:
Secured by first liens		1,471		—		4,469		5,940		154,578		160,518
Secured by junior liens		366		—		322		688		6,622		7,310
Acquisition, development and construction:
Residential		—		—		—		—		51,959		51,959
Other		480		—		13,589		14,069		108,658		122,727
Consumer		79		—		64		143		13,223		13,366
	$	3,308		—		30,751		34,059		838,401		872,460

	December 31, 2012
	30 - 89 Days		90 Days or		Nonaccrual		Total		Loans Not
	Past Due		More Past Due		Loans		Past Due		Past Due		Total
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	151		—		341		492		108,673		109,165
Financial		—		—		—		—		2,854		2,854
Agricultural		—		—		639		639		7,366		8,005
Equity lines		165		—		1,291		1,456		36,319		37,775
Other		—		—		87		87		16,667		16,754
Commercial real estate:
Owner occupied		1,053		—		776		1,829		204,552		206,381
Non Owner occupied		820		—		10,960		11,780		125,502		137,282
Residential real estate:
Secured by first liens		3,848		—		5,923		9,771		150,365		160,136
Secured by junior liens		69		—		368		437		7,466		7,903
Acquisition, development and construction:
Residential		168		—		68		236		45,104		45,340
Other		811		—		9,644		10,455		115,955		126,410
Consumer		66		—		100		166		13,226		13,392
	$	7,151		—		30,197		37,348		834,049		871,397

Troubled Debt Restructurings:

The Company has troubled debt restructurings (TDRs) with a balance of $5,975 and $2,711 included in impaired loans at June 30, 2013 and December 31, 2012, respectively. No specific reserves were allocated to customers whose loan terms had been modified in TDRs as of June 30, 2013 and December 31, 2012. The Company is not committed to lend additional amounts as of June 30, 2013 and December 31, 2012 to customers with outstanding loans that are classified as TDRs. The following tables present TDRs as of June 30, 2013 and December 31, 2012.

	June 30, 2013
	Number of
	Loans		Recorded Investment
	(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		1	$	118
Financial		-		-
Agricultural		-		-
Equity lines		-		-
Other		-		-
Commercial real estate:
Owner occupied		2		522
Non Owner occupied		3		3,315
Residential real estate:
Secured by first liens		11		1,831
Secured by junior liens		2		189
Acquisition, development and construction:
Residential		-		-
Other		-		-
Consumer		-		-
		19	$	5,975

	December 31, 2012
	Number of
	Loans		Recorded Investment
	(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		1	$	127
Financial		-		-
Agricultural		-		-
Equity lines		-		-
Other		-		-
Commercial real estate:
Owner occupied		1		178
Non Owner occupied		3		835
Residential real estate:
Secured by first liens		8		1,374
Secured by junior liens		2		197
Acquisition, development and construction:
Residential		-		-
Other		-		-
Consumer		-		-
		15	$	2,711

During the periods ended June 30, 2013 and 2012, the terms of certain loans were modified as TDRs. The modification of the terms of such loans included one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.

Modifications involving a reduction of the stated interest rate of the loan were for rate reductions ranging from 2.00% to 6.00%. Modifications involving an extension of the maturity date were for periods ranging from 2 months to 172 months.

The following table presents loans by class modified as TDRs that occurred during the three and six months ended June 30, 2013 and 2012.

	Three Months Ended June 30, 2013						Three Months Ended June 30, 2012
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number of		Outstanding		Outstanding		Number of		Outstanding		Outstanding
	Loans		Recorded Investment		Recorded Investment		Loans		Recorded Investment		Recorded Investment
	(Dollars in thousands)						(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		-	$	-	$	-		-	$	-	$	-
Financial		-		-		-		-		-		-
Agricultural		-		-		-		-		-		-
Equity lines		-		-		-		-		-		-
Other		-		-		-		-		-		-
Commercial real estate:
Owner occupied		1		470		353		-		-		-
Non Owner occupied		1		2,628		2,638		-		-		-
Residential real estate:
Secured by first liens		1		130		73		-		-		-
Secured by junior liens		-		-		-		-		-		-
Acquisition, development and construction:
Residential		-		-		-		-		-		-
Other		-		-		-		-		-		-
Consumer		-		-		-		1		80		36
		3	$	3,228	$	3,064		1	$	80	$	36

	Six Months Ended June 30, 2013						Six Months Ended June 30, 2012
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number of		Outstanding		Outstanding		Number of		Outstanding		Outstanding
	Loans		Recorded Investment		Recorded Investment		Loans		Recorded Investment		Recorded Investment
	(Dollars in thousands)						(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		-	$	-	$	-		-	$	-	$	-
Financial		-		-		-		-		-		-
Agricultural		-		-		-		-		-		-
Equity lines		-		-		-		-		-		-
Other		-		-		-		-		-		-
Commercial real estate:
Owner occupied		1		470		353		-		-		-
Non Owner occupied		1		2,628		2,638		1		208		198
Residential real estate:
Secured by first liens		3		682		492		-		-		-
Secured by junior liens		-		-		-		1		185		133
Acquisition, development and construction:
Residential		-		-		-		-		-		-
Other		-		-		-		-		-		-
Consumer		-		-		-		1		80		36
		5	$	3,780	$	3,483		3	$	473	$	367

A loan is considered to be in payment default once it is 90 days contractually past due under the modified terms. During the six months ended June 30, 2013, one residential real estate loan with a recorded investment of $492 defaulted during the second quarter of 2013 and the default occurred within the twelve month period following the loan modification. During the six months ended June 30, 2012, one consumer loan with a recorded investment of $18 prior to default resulted in an $18 charge-off during the first quarter of 2012 and the default occurred within the twelve month period following the loan modification. As of June 30, 2013, all other TDRs are performing according to their modified terms.

The TDRs described in the table above increased the allowance for loan losses by $44 and $151 and resulted in charge-offs of $44 and $151 for the three and six months ended June 30, 2013, respectively.

For the six months ended June 30, 2012, the TDRs described in the table above increased the allowance for loan losses by $38 and resulted in charge-offs of $38.

Charge-offs on such loans are factored into the rolling historical loss rate, which is used in the calculation of the allowance for loan losses.

The terms of certain other loans were modified during the six month period ended June 30, 2013 and 2012 that did not meet the definition of a TDR. These loans have a total recorded investment as of June 30, 2013 and 2012 of $10,012 and $4,651 respectively. The modification of these loans involved either a modification of the terms of a loan to borrowers who were not experiencing financial difficulties or a delay in a payment that was considered to be insignificant.

In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Company’s internal underwriting policy.

Certain loans which were modified during the six month period ended June 30, 2013 and 2012 and did not meet the definition of a TDR, as the modification was a delay in a payment that was considered to be insignificant, had delays in payment ranging from 30 days to 2 months in 2013 and 30 days to 3 months in 2012.

Credit Quality Indicators:

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company, through its originating account officer, places an initial credit risk rating on every loan. An annual review and analysis of loan relationships (irrespective of loan types included in the overall relationship) with total related exposure of $500 or greater is performed by the Credit Administration department in order to update risk ratings given current available information.

Through the review of delinquency reports, updated financial statements or other relevant information in the normal course of business, the lending officer and/or Credit Administration review personnel may determine that a loan relationship has weakened to the point that a criticized (Watch grade) or classified (Substandard & Doubtful grades) status is warranted. When a loan relationship with total related exposure of $200 or greater is adversely graded (Watch or above), the lending officer is then charged with preparing a Classified/Watch report which outlines the background of the credit problem, current repayment status of the loans, current collateral evaluation and a workout plan of action. This plan may include goals to improve the credit rating, assisting the borrower in moving the loans to another institution and/or collateral liquidation. All such Classified/Watch reports are reviewed on a quarterly basis by members of Executive Management at a regularly scheduled meeting in which each lending officer presents the workout plans for their criticized credit relationships.

The Company uses the following definitions for risk ratings.

Watch: Loans classified as watch have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

Substandard: Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful: Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. As of June 30, 2013 and December 31, 2012, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows.

	June 30, 2013
	Pass		Watch		Substandard		Doubtful
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	95,580		9,547		4,999		—
Financial		647		2,048		—		—
Agricultural		8,486		—		1,242		—
Equity lines		34,638		503		736		—
Other		18,243		324		115		—
Commercial real estate:
Owner occupied		184,865		15,078		8,559		—
Non Owner occupied		113,071		4,397		13,502		—
Residential real estate:
Secured by first liens		142,328		11,043		7,147		—
Secured by junior liens		6,629		289		392		—
Acquisition, development and construction:
Residential		51,959		—		—		—
Other		91,223		16,623		14,881		—
Consumer		13,041		198		127		—
	$	760,710		60,050		51,700		—

	December 31, 2012
	Pass		Watch		Substandard		Doubtful
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	98,380		7,885		2,900		—
Financial		—		2,854		—		—
Agricultural		6,382		—		1,623		—
Equity lines		35,021		1,259		1,495		—
Other		16,303		325		126		—
Commercial real estate:
Owner occupied		183,290		14,076		9,015		—
Non Owner occupied		115,151		8,339		13,792		—
Residential real estate:
Secured by first liens		142,061		10,029		8,046		—
Secured by junior liens		7,044		420		439		—
Acquisition, development and construction:
Residential		44,463		810		67		—
Other		90,460		18,422		17,528		—
Consumer		12,987		246		159		—
	$	751,542		64,665		55,190		—

Note 4 – Fair Value Measurements

Fair value is the exchange price that would be received to sell an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair values:

Level 1:

Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2:

Significant other observable inputs other than Level 1 prices, such as quoted market prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.

Level 3:

Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

In determining the appropriate levels, the Company used the following methods and significant assumptions to estimate the fair value of each type of financial instrument:

Investment Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on matrix pricing which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities relationship to other benchmark quoted securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other non-observable market indicators (Level 3). The fair values of Level 3 investment securities are determined by an independent third party. These valuations are then reviewed by the Company’s Controller and CFO. Discounted cash flows are calculated using spread to swap and LIBOR curves that are updated to incorporate loss severities, volatility, credit spread and optionality. During times when trading is more liquid, broker quotes are used (if available) to validate the model. Rating agency and industry research reports as well as defaults and deferrals on individual securities are reviewed and incorporated into the calculations.

Interest Rate Swap Derivatives: The fair value of interest rate swap derivatives is determined based on discounted cash flow valuation models using observable market data as of the measurement date (Level 2 inputs). The fair value adjustment is included in other liabilities.

Mortgage Banking Derivatives: The fair value of mortgage banking derivatives is determined by individual third party sales contract prices for the specific loans held at each reporting period end (Level 2 inputs). The fair value adjustment is included in other assets.

Loans Held for Sale: Loans held for sale are carried at fair value, as determined by outstanding commitments, from third party investors (Level 2).

Impaired Loans: The fair value of collateral dependent impaired loans is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in Level 3 fair value classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Other Real Estate Owned: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. The fair value of other real estate owned is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value. Real estate owned properties are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Appraisals for both collateral dependent impaired loans and other real estate owned are performed by certified general appraisers, certified residential appraisers or state licensed appraisers whose qualifications and licenses are annually reviewed and verified by the Company. Once received, a member of the Real Estate Valuation Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value and determines if reasonable. Appraisals for collateral dependent impaired loans and other real estate owned are updated annually. On an annual basis the Company compares the actual selling costs of collateral that has been liquidated to the selling price to determine what additional adjustment should be made to the appraisal value. The most recent analysis performed indicated that an additional discount of 10% should be applied to properties with appraisals performed within 12 months.

Assets and Liabilities Measured on a Recurring Basis

The following tables present the balances of assets and liabilities measured at fair value on a recurring basis by level within the hierarchy as of June 30, 2013 and December 31, 2012.


	June 30,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2013		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available-for-sale securities
Obligations of U.S. Government agencies	$	229,979		143,107		86,872		-
Obligations of states and political subdivisions		145,215		-		145,215		-
Mortgage-backed securities
U.S. GSE’s MBS - residential		127,896		-		127,896		-
U.S. GSE’s CMO		58,785		-		58,785		-
Corporate bonds		116,695		-		116,586		109
Total available-for-sale securities	$	678,570		143,107		535,354		109

Loans held for sale		30,905		-		30,905		-

Mortgage banking derivatives		117		-		117		-

	$	709,592		143,107		566,376		109

Liabilities:
Interest rate swap derivatives		1,291		-		1,291		-

	$	1,291		-		1,291		-

	December 31,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2012		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available-for-sale securities
Obligations of U.S. Government agencies	$	232,056		128,907		103,149		-

Obligations of states and political subdivisions		135,989		-		135,989		-
Mortgage-backed securities
U.S. GSE’s MBS - residential		110,120		-		110,120		-
U.S. GSE’s CMO		79,598		-		79,598		-
Other CMO		1,748		-		172		1,576
Corporate bonds		95,228		-		95,120		108
Total available-for-sale securities	$	654,739		128,907		524,148		1,684

Loans held for sale		30,051		-		30,051		-

Mortgage banking derivatives		19		-		19		-

	$	684,809		128,907		554,218		1,684

Liabilities:
Interest rate swap derivatives		2,416		-		2,416		-

	$	2,416		-		2,416		-

Transfers between Level 1 and Level 2:

No securities were transferred between Level 1 and Level 2 during the six months ended June 30, 2013 and the six months ended June 30, 2012.

Transfers between Level 2 and Level 3:

No securities were transferred between Level 2 and Level 3 during the six months ended June 30, 2013. In the second quarter of 2012, one corporate security was transferred out of Level 3 and into Level 2 based on observable market data for this security due to increased market activity for this security. The Company’s policy is to recognize transfers into or out of a level as of the end of a reporting period. As a result, this security with a market value of $927 as of June 30, 2012 was transferred on June 30, 2012.

The tables below present a reconciliation and income statement classification of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) as of June 30, 2013 and 2012.

	Fair Value Measurements Using Significant Unobservable
	Inputs (Level 3)

	Total			Other CMO			Corporate bonds
	(Dollars in thousands)

Beginning balance, January 1, 2013	$	1,684		$	1,576		$	108
Total gains or losses (realized/unrealized)
Included in earnings
Gain (loss) on sales		129			129			-
Other-than-temporary impairment		-			-			-
Included in other comprehensive income		41			40			1
Purchases, sales, issuances and settlements
Purchases		-			-			-
Sales, Calls		(1,620	)		(1,620	)		-
Issuances		-			-			-
Settlements		-			-			-
Principal repayments		(125	)		(125	)		-
Transfers into Level 3		-			-			-
Transfers out of Level 3		-			-			-

Ending balance, June 30, 2013	$	109		$	-		$	109

	Fair Value Measurements Using Significant Unobservable
	Inputs (Level 3)

	Total			Other CMO			Corporate bonds
	(Dollars in thousands)

Beginning balance, January 1, 2012	$	4,349		$	1,908		$	2,441
Total gains or losses (realized/unrealized)
Included in earnings
Gain (loss) on sales		-			-			-
Other-than-temporary impairment		(9	)		(9	)		-
Included in other comprehensive income		133			40			93
Purchases, sales, issuances and settlements
Purchases		-			-			-
Sales, Calls		(1,500	)		-			(1,500	)
Issuances		-			-			-
Settlements		-			-			-
Principal repayments		(266	)		(266	)		-
Transfers into Level 3		-			-			-
Transfers out of Level 3		(927	)		-			(927	)

Ending balance, June 30, 2012	$	1,780		$	1,673		$	107

The Company uses an independent third party to value its U.S. government agencies, mortgage-backed securities, and corporate bonds. Their approach uses relevant information generated by transactions that have occurred in the market place that involve similar assets, as well as using cash flow information when necessary. These inputs are observable, either directly or indirectly in the market place for similar assets. The Company considers these valuations to be Level 2 pricing.

The fair value of the Company’s municipal securities is determined by another independent third party. Their approach uses relevant information generated by transactions that have occurred in the market place that involve similar assets. These inputs are observable, either directly or indirectly in the market place for similar assets. The Company considers these valuations to be Level 2 pricing.

For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows (Level 3 pricing) as determined by an independent third party. The significant unobservable inputs used in the valuation model include prepayment rates, constant default rates, loss severity and yields.

On a quarterly basis, the Company selects a random sample of investment security valuations, as determined by the independent third party, to validate pricing and level assignments.

The following table presents quantitative information about level 3 fair value measurements at June 30, 2013 and 2012.


	June 30,		Valuation	Unobservable	Range
	2013		Technique	Inputs	(Weighted Avg)
	(Dollars in thousands)
Available-for-sale securities
Corporate bonds		109	discounted cash flow	yield		10.00	%

	June 30,		Valuation	Unobservable	Range
	2012		Technique	Inputs	(Weighted Avg)
	(Dollars in thousands)
Available-for-sale securities
Mortgage-backed securities
Other CMO		1,673	discounted cash flow	voluntary prepayment rate		5.00% - 10.00%	(6.56%)
				constant default rate		31.15% - 3.55%	(14.28%)
				loss severity		45.00% - 55.00%	(54.42%)
				yield		10.00	%

Corporate bonds		107	discounted cash flow	yield		10.00	%

The significant unobservable inputs used in the fair value measurement of the Company’s mortgage-backed securities are prepayment rates, constant default rates, loss severity and yields that the market would require for mortgage-backed securities with similar maturities and risk characteristics. Significant increases/(decreases) in any of those inputs in isolation would result in a significantly lower/(higher) fair value measurement. Generally, a change in the assumption used for the probability of default is accompanied by a directionally similar change in the assumption used for the loss severity and a directionally opposite change in the assumption used for prepayment rates.

The significant unobservable inputs used in the fair value measurement of the Company’s corporate bonds are yields that the market would require for corporate debt obligations with similar maturities and risk characteristics.

The table below summarizes changes in unrealized gains and losses recorded in earnings for the six months ended June 30, 2013 and 2012 for Level 3 assets that are still held at June 30, 2013 and 2012.

	Other CMO
	2013		2012
	(Dollars in thousands)

Changes in unrealized gains (losses) included in earnings	$	-	$	(9	)
Other changes in fair value		-		-
	$	-	$	(9	)

Assets and Liabilities Measured on a Non-Recurring Basis

Assets and liabilities measured at fair value on a non-recurring basis as of June 30, 2013 and December 31, 2012 are summarized below.

	June 30,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2013		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans (1)
Commercial, financial, and agricultural	$	118		-		-		118
Real estate:
Commercial		3,816		-		-		3,816
Residential		2,195		-		-		2,195
Acquisition, development and construction		11,494		-		-		11,494
	$	17,623		-		-		17,623

Other real estate owned
Acquisition, development and construction		226		-		-		226
	$	226		-		-		226

	$	17,849		-		-		17,849

(1) Includes loans directly charged down to fair value.


	December 31,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2012		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans
Commercial, financial, and agricultural	$	179		-		-		179
Real estate:
Commercial		1,702		-		-		1,702
Residential		3,769		-		-		3,769
Acquisition, development and construction		7,101		-		-		7,101
Consumer installment		9		-		-		9
	$	12,760		-		-		12,760

Other real estate owned
Real estate:
Commercial		2,102		-		-		2,102
Acquisition, development and construction		393		-		-		393
	$	2,495		-		-		2,495

	$	15,255		-		-		15,255

The following represents impairment charges recognized during the period:

Impaired loans, which are measured for impairment using the fair value of collateral for collateral dependent loans, had a carrying amount of $20,376, resulting in an additional provision for loan losses of $3,521 and $4,827 for the three and six months ended June 30, 2013. Impaired loans that are not carried at fair value had a carrying amount of $13,460 at June 30, 2013.

As of December 31, 2012, impaired loans had a carrying amount of $14,815, resulting in an additional provision for loan losses of $5,527 for the year ending 2012. Impaired loans that are not carried at fair value had a carrying amount of $14,711 at December 31, 2012.

Other real estate owned, which is carried at fair value less costs to sell, was $226 which consisted of the outstanding balance of $900, less a valuation allowance of $674, resulting in a write down of $148 and $548 for the three and six months ended June 30, 2013.

As of December 31, 2012, other real estate owned was $2,495 which consisted of the outstanding balance of $3,582, less a valuation allowance of $1,087, resulting in a write down of $1,150 for the year ending 2012.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at June 30, 2013 and December 31, 2012.

	June 30,		Valuation	Unobservable	Range
	2013		Techniques	Inputs	(Weighted Avg)
	(Dollars in thousands)
Impaired loans
Commercial, financial, and agricultural		118	liquidation value

Real estate:
Commercial		3,816	sales comparison	adjustment for		0.00% - 70.99%	(30.62%)
				differences between
				the comparable sales

			income approach	capitalization rate		8.50% - 11.00%	(9.47%)

			income approach	discount rate		13.00	%

Residential		2,195	sales comparison	adjustment for		0.35% - 49.15%	(11.59%)
				differences between
				the comparable sales

Acquisition, development and
construction		11,494	sales comparison	adjustment for		0.00% - 37.69%	(13.03%)
				differences between
				the comparable sales

			income approach	discount rate		12.00% - 17.00%	(14.55%)

			income approach	capitalization rate		7.60	%


Other real estate owned
Acquisition, development and
construction		226	sales comparison	adjustment for		3.70% - 20.09%	(11.90%)
				differences between
				the comparable sales

	Dec. 31,		Valuation	Unobservable	Range
	2012		Techniques	Inputs	(Weighted Avg)
	(Dollars in thousands)
Impaired loans
Commercial, financial, and agricultural		179	liquidation value

Real estate:
Commercial		1,702	sales comparison	adjustment for		0.00% - 70.99%	(21.12%)
				differences between
				the comparable sales

			income approach	capitalization rate		8.50% - 10.00%	(9.40%)

Residential		3,769	sales comparison	adjustment for		0.04% - 49.15%	(12.28%)
				differences between
				the comparable sales

Acquisition, development and
construction		7,101	sales comparison	adjustment for		0.00% - 63.33%	(13.97%)
				differences between
				the comparable sales

			income approach	discount rate		12.00% - 17.00%	(14.89%)

Consumer installment		9	liquidation value


Other real estate owned
Real estate:
Commercial		2,102	sales comparison	adjustment for		7.99% - 22.86%	(15.43%)
				differences between
				the comparable sales

Acquisition, development and
construction		393	sales comparison	adjustment for		0.00% - 39.95%	(21.09%)
				differences between
				the comparable sales

Disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value is required. Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument.

Because no market exists for a portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair value estimates are based on existing on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of the estimates.

The assumptions used in the estimation of the fair value of the Company’s financial instruments are explained below. Where quoted market prices are not available, fair values are based on estimates using discounted cash flow and other valuation techniques. Discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following fair value estimates cannot be substantiated by comparison to independent markets and should not be considered representative of the liquidation value of the Company’s financial instruments, but rather a good-faith estimate of the fair value of financial instruments held by the Company. Certain financial instruments and all nonfinancial instruments are excluded from disclosure requirements.

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

(a)

Cash and Cash Equivalents

Fair value equals the carrying value of such assets due to their nature and is classified as Level 1.

(b)

Loans, net

The fair value of loans is calculated using discounted cash flows by loan type resulting in a Level 3 classification. The discount rate used to determine the present value of the loan portfolio is an estimated market rate that reflects the credit and interest rate risk inherent in the loan portfolio without considering widening credit spreads due to market illiquidity. The estimated maturity is based on the Company’s historical experience with repayments adjusted to estimate the effect of current market conditions. The carrying amount of related accrued interest receivable, due to its short-term nature, approximates its fair value, is not significant and is not disclosed. The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification. The allowance for loan losses is considered a reasonable discount for credit risk. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

(c)

Restricted Equity Securities

The fair value of Federal Home Loan Bank (“FHLB”) stock was not practicable to determine due to restrictions placed on its transferability.

(d)

Deposits

Fair values for certificates of deposit have been determined using discounted cash flows. The discount rate used is based on estimated market rates for deposits of similar remaining maturities and are classified as Level 2. The carrying amounts of all other deposits, due to their short-term nature, approximate their fair values and are classified as Level 1. The carrying amount of related accrued interest payable, due to its short-term nature, approximates its fair value, is not significant and is not disclosed.

(e)

Securities Sold Under Repurchase Agreements

Fair value approximates the carrying value of such liabilities due to their short-term nature and is classified as Level 1.

(f)

Advances from FHLB

The fair value of the FHLB advances is obtained from the FHLB and is calculated by discounting contractual cash flows using an estimated interest rate based on the current rates available to the Company for debt of similar remaining maturities and collateral terms resulting in a Level 2 classification.

(g)

Subordinated debentures

The fair value for subordinated debentures is calculated using discounted cash flows based upon current market spreads to LIBOR for debt of similar remaining maturities and collateral terms resulting in a Level 3 classification.

(h)

Commitments

The difference between the carrying values and fair values of commitments to extend credit are not significant and are not disclosed.

The carrying amounts and estimated fair values of the Company’s financial instruments at June 30, 2013 and December 31, 2012 are as follows:


	June 30, 2013
	Carrying		Fair Value Measurements
	amount		Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Financial assets:
Cash and cash equivalents	$	44,325		44,325		44,325		-		-
Loans, net		827,646		826,513		-		-		826,513
Restricted equity securities		4,870		N/A
Financial liabilities:
Deposits with stated maturities		382,783		384,161		-		384,161		-
Deposits without stated maturities		1,060,110		1,060,110		1,060,110		-		-
Securities sold under repurchase agreements		10,718		10,718		10,718		-		-
Advances from FHLB		64,000		68,783		-		68,783		-
Subordinated debentures		21,547		16,170		-		-		16,170

	December 31, 2012
	Carrying		Fair Value Measurements
	amount		Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Financial assets:
Cash and cash equivalents	$	43,888		43,888		43,888		-		-
Loans, net		827,786		828,301		-		-		828,301
Restricted equity securities		5,296		N/A
Financial liabilities:
Deposits with stated maturities		391,448		392,944		-		392,944		-
Deposits without stated maturities		1,029,824		1,029,824		1,029,824		-		-
Securities sold under repurchase agreements		976		976		976		-		-
Advances from FHLB		64,000		70,802		-		70,802		-
Subordinated debentures		21,547		16,097		-		-		16,097

Note 5 – Interest Rate Swap Derivatives

The Company utilizes interest rate swap agreements as part of its asset liability management strategy to help manage its interest rate risk position. The notional amount of the interest rate swaps does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual interest rate swap agreements.

During May 2011, the Company entered into two interest rate swaps with notional amounts totaling $10,000 which were designated as cash flow hedges of certain subordinated debentures and were determined to be fully effective during all periods presented. As such, no amount of ineffectiveness has been included in net income. Therefore, the aggregate fair value of the swaps is recorded in other liabilities with changes in fair value recorded in other comprehensive income. The Company expects the hedges to remain highly effective during the remaining terms of the swaps.

Summary information about the interest rate swaps designated as cash flow hedges as of June 30, 2013 and December 31, 2012 is as follows:


	June 30, 2013			December 31, 2012
	(Dollars in thousands)

Notional Amounts	$	10,000		$	10,000
Weighted average pay rates		5.35	%		5.35	%
Weighted average receive rates		1.67	%		1.71	%
Weigted average maturity	15.58 years			16.08 years
Unrealized losses	$	1,291		$	2,416

The swaps were forward starting and had effective dates of March 15, 2012 and June 15, 2012. Interest expense recorded on these swap transactions totaled $184 at June 30, 2013 and is reported as a component of interest expense in other borrowings.

If the fair value falls below specified levels, the Company is required to pledge collateral against these derivative contract liabilities. As of June 30, 2013, the Company had pledged $2,353 with the counterparty. Under certain circumstances, including a downgrade of its credit rating below specified levels, the counterparty is required to pledge collateral against these derivative contract liabilities. As of June 30, 2013, no collateral had been received from the counterparty.

Note 6 – Other Comprehensive Income (Loss)

Other comprehensive income (loss) for the Company consists of changes in net unrealized gains and losses on investment securities available-for-sale and interest rate swap derivatives. The following tables present a summary of the accumulated other comprehensive income balances, net of tax, as of June 30, 2013 and 2012.


	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities			Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, December 31, 2012	$	(1,476	)	$	9,428		$	7,952

Current Year change		687			(12,101	)		(11,414	)
Balance, June 30, 2013	$	(789	)	$	(2,673	)	$	(3,462	)


	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities		Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, December 31, 2011	$	(1,382	)	$	5,018	$	3,636

Current Year change		(219	)		2,602		2,383
Balance, June 30, 2012	$	(1,601	)	$	7,620	$	6,019

The following tables present reclassifications out of accumulated other comprehensive income.


	Three Months Ended June 30,
	2013			2012
Details about Accumulated Other Comprehensive Income Components	Amount reclassified from Accumulated Other Comprehensive Income			Amount reclassified from Accumulated Other Comprehensive Income			Affected line item in the Statement where Net Income is presented
	(Dollars in thousands)
Unrealized gains and losses on available-for-sale securities
	$	15		$	101		Realized gain on sale of securities
		-			(9	)	Impairment expense
		15			92		Total before tax
		(4	)	$	(27	)	Tax expense
	$	11		$	65		Net of tax



	Six Months Ended June 30,
	2013			2012
Details about Accumulated Other Comprehensive Income Components	Amount reclassified from Accumulated Other Comprehensive Income			Amount reclassified from Accumulated Other Comprehensive Income			Affected line item in the Statement where Net Income is presented
	(Dollars in thousands)
Unrealized gains and losses on available-for-sale securities
	$	(29	)	$	478		Realized gain (loss) on sale of securities
		-			(9	)	Impairment expense
		(29	)		469		Total before tax
		9		$	(142	)	Tax (expense) benefit
	$	(20	)	$	327		Net of tax

Note 7 – Dividends

On April 24, 2013, the Company declared a quarterly cash dividend of $0.13 per share on outstanding shares. The dividend was paid on May 17, 2013 to shareholders of record as of May 3, 2013.

On July 17, 2013, the Company declared a quarterly cash dividend of $0.13 per share on outstanding shares. The dividend is payable on August 16, 2013 to shareholders of record as of August 2, 2013.

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

(Dollar amounts are expressed in thousands unless otherwise noted)

Overview

Southeastern Bank Financial Corporation (the “Company”) is a Georgia corporation that is a bank holding company registered with the Board of Governors of the Federal Reserve System (the “Federal Reserve”) under the Bank Holding Company Act of 1956, as amended (the “BHCA”). Southeastern Bank Financial Corporation (OTCQB: SBFC) trades on OTCQB, the marketplace for companies that are current in their reporting with a U.S. regulator. Investors can find Real-Time quotes and market information for the Company on www.otcmarkets.com. The Company’s wholly-owned subsidiary, Georgia Bank & Trust Company of Augusta (“GB&T”), primarily does business in the Augusta-Richmond County, GA-SC metropolitan area. GB&T was organized by a group of local citizens and commenced business on August 28, 1989, with one branch location. Today, it is Augusta’s largest community banking company, operating nine full service branches in Augusta, Martinez, and Evans, Georgia. GB&T also operates three full service branches in North Augusta and Aiken, South Carolina under the name “Southern Bank & Trust, a division of Georgia Bank & Trust Company of Augusta.” Mortgage origination offices are located in Augusta and Savannah, Georgia and in Aiken, South Carolina. The Company’s Operations Center is located in Martinez, Georgia.

The Company’s primary market includes Richmond and Columbia Counties in Georgia and Aiken County in South Carolina, all part of the Augusta-Richmond County, GA-SC metropolitan statistical area (MSA). The Augusta market area has a diversified economy based principally on government, public utilities, health care, manufacturing, construction, and wholesale and retail trade. Augusta is one of the leading medical centers in the Southeast.

The Company’s services include the origination of residential and commercial real estate loans, construction and development loans, and commercial and consumer loans. The Company also offers a variety of deposit programs, including noninterest-bearing demand, interest checking, money management, savings, and time deposits. In its primary market area, the Augusta-Richmond County, GA-SC metropolitan area, the Company had 19.26% of all deposits and was the second largest depository institution and the largest locally based institution at June 30, 2012, as cited from the Federal Deposit Insurance Corporation’s (“FDIC”) website. Securities sold under repurchase agreements are also offered. Additional services include wealth management, trust, retail investment, and mortgage. As a matter of practice, most mortgage loans are sold in the secondary market; however, some mortgage loans are placed in the portfolio based on asset/liability management strategies. The Company continues to concentrate on increasing its market share through various new deposit and loan products and other financial services and by focusing on its customer relationship management philosophy.

The Company is committed to building life-long relationships with its customers, employees, shareholders, and the communities it serves.

The Company’s primary source of income is from its lending activities, followed by interest income from its investment activities, gain on sales of mortgage loans in the secondary market and service charges and fees on deposits. Interest income on loans increased $217 or 0.93% for the first six months of 2013 as compared to the first six months of 2012 and was due primarily to increased volume offset by decreased loan yields. Interest income on investment securities decreased $788 or 9.09% and was due primarily to declining yields somewhat offset by a larger investment portfolio. Service charges and fees on deposits increased $172 or 5.22% and resulted primarily from increases in non-sufficient funds (“NSF”) income on commercial checking accounts due to increased activity, and also from increased ATM/Debit card income for the first six months of 2013. Gain on sales of loans decreased $261 or 6.04% due to reduced mortgage originations and refinancing activity during the first six months of the year.

Table 1 - Selected Financial Data


	June 30,			December 31,			June 30,
	2013			2012			2012
	(Dollars in thousands)

Assets	$	1,693,901		$	1,662,502		$	1,666,127
Investment securities		678,570			654,739			665,369
Loans		872,523			871,447			847,759
Deposits		1,442,893			1,421,272			1,435,015

Annualized return on average total assets		0.93	%		0.87	%		0.82	%
Annualized return on average equity		11.28	%		11.40	%		11.01	%

The Company continues to focus on the net interest margin, regulatory capital levels, liquidity management, asset quality and the generation of loans to offset declining investment portfolio yields. Asset levels have increased slightly and resulted from increased investment and loan portfolio balances over the comparable periods in an effort to maintain net interest income.

Annualized return on average total assets and annualized return on average equity have improved moderately in 2013 as compared to 2012. The increased returns were due primarily to increased net interest income, reduced provision for loan losses and non-interest expense, offset in part by lower investment securities gains and gain on sales of loans. Net income for the six months ended June 30, 2013 was $7,779 compared to $6,663 for the same period in 2012.

The Company meets its liquidity needs by managing cash and due from banks, federal funds purchased and sold, maturity of investment securities, principal repayments from mortgage-backed securities, and draws on lines of credit. Additionally, liquidity can be managed through structuring deposit and loan maturities. The Company funds loan and investment growth with core deposits, securities sold under repurchase agreements, Federal Home Loan Bank advances and other wholesale funding including brokered certificates of deposit. During inflationary periods, interest rates generally increase and operating expenses generally rise. When interest rates rise, variable rate loans and investments produce higher earnings; however, deposit and other borrowings interest expense also rise. The Company monitors its interest rate risk as it applies to net interest income in a ramp up and down annually 400 basis points (4.00%) scenario and as it applies to economic value of equity in a shock up and down 400 basis points (4.00%) scenario. The Company monitors operating expenses through responsibility center budgeting.

Forward-Looking Statements

Southeastern Bank Financial Corporation may, from time to time, make written or oral forward-looking statements, including statements contained in the Company’s filings with the Securities and Exchange Commission (the “Commission”) and its reports to shareholders. Statements made in such documents, other than those concerning historical information, should be considered forward-looking and subject to various risks and uncertainties. Such forward-looking statements are made based upon management’s belief as well as assumptions made by, and information currently available to, management pursuant to “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. The Company’s actual results may differ materially from the results anticipated in forward-looking statements due to a variety of factors, including unanticipated changes in the Company’s local economies, the national economy, governmental monetary and fiscal policies, deposit levels, loan demand, loan collateral values and securities portfolio values; difficulties in interest rate risk management; the effects of competition in the banking business; difficulties in expanding the Company’s business into new markets; changes in governmental regulation relating to the banking industry, including but not limited to the Dodd-Frank Wall Street Reform and Consumer Protection Act; failure of assumptions underlying the establishment of reserves for loan losses, including the value of collateral underlying delinquent loans; and other factors. The Company cautions that such factors are not exclusive. The Company does not undertake to update any forward-looking statement that may be made from time to time by, or on behalf of, the Company.

Critical Accounting Estimates

The accounting and financial reporting policies of the Company and its subsidiary conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. Of these policies, management has identified the allowance for loan losses, determining the fair values of financial instruments including other real estate owned, interest rate swap derivatives, investment securities, and other-than-temporary impairment as critical accounting estimates that requires difficult, subjective judgment and are important to the presentation of the financial condition and results of operations of the Company.

Allowance for Loan Losses

The allowance for loan losses is established through a provision for loan losses charged to expense, which affects the Company’s earnings directly. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Subsequent recoveries are added to the allowance. The allowance is an amount that reflects management’s estimate of the level of probable incurred losses in the portfolio. Factors considered by management in determining the adequacy of the allowance include, but are not limited to: (1) detailed reviews of individual loans; (2) historical and current trends in loan charge-offs for the various portfolio segments evaluated; (3) the level of the allowance in relation to total loans and to historical loss levels; (4) levels and trends in non-performing and past due loans; (5) collateral values of properties securing loans; and (6) management’s assessment of economic conditions. The Company’s Board of Directors reviews the recommendations of management regarding the appropriate level for the allowance for loan losses based upon these factors.

The provision for loan losses is the charge to operating earnings necessary to maintain an adequate allowance for loan losses. The Company has developed policies and procedures for evaluating the overall quality of its loan portfolio and the timely identification of problem credits. Management continues to review these policies and procedures and makes further improvements as needed. The adequacy of the Company’s allowance for loan losses and the effectiveness of the Company’s internal policies and procedures are also reviewed periodically by the Company’s regulators and the Company’s internal loan review personnel. The Company’s regulators may advise the Company to recognize additions to the allowance based upon their judgments about information available to them at the time of their examination. Such regulatory guidance is considered, and the Company may recognize additions to the allowance as a result.

The Company continues to refine the methodology on which the level of the allowance for loan losses is based by comparing historical loss ratios utilized to actual experience and by classifying loans for analysis based on similar risk characteristics. Cash receipts for accruing loans are applied to principal and interest under the contractual terms of the loan agreement; however, cash receipts on impaired and nonaccrual loans for which the accrual of interest has been discontinued are applied to principal and interest income depending upon the overall risk of principal loss to the Company.

Fair Value of Financial Instruments

A significant portion of the Company’s assets are financial instruments carried at fair value. This includes securities available-for-sale, loans held for sale, certain impaired loans, mortgage banking derivatives, interest rate swap derivatives and other real estate owned. At June 30, 2013 and December 31, 2012 the percentage of total assets measured at fair value was 42.94% and 42.23%, respectively. The majority of assets carried at fair value are based on either quoted market prices or market prices for similar instruments. At June 30, 2013, 2.47% of assets measured at fair value were based on significant unobservable inputs. This consisted primarily of available-for-sale securities, impaired loans and other real estate and represents approximately 1.06% of the Company’s total assets. See Note 4 “Fair Value Measurements” in the “Notes to Consolidated Financial Statements” herein for additional disclosures regarding the fair value of financial instruments.

Other Real Estate Owned

Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through expense. Operating costs after acquisition are expensed. Costs related to the development and improvement of real estate owned are capitalized.

Interest Rate Swap Derivatives

The fair value of interest rate swap derivatives is determined based on discounted cash flow valuation models using observable market data as of the measurement date. The fair value adjustment is included in other liabilities. See Note 1 “Summary of Significant Accounting Policies” in the “Notes to Consolidated Financial Statements” herein for additional disclosures regarding the fair value of financial instruments.

Investment Securities

The fair values for available-for-sale securities are generally based upon quoted market prices or observable market prices for similar instruments. These values take into account recent market activity as well as other market observable data such as interest rate, spread and prepayment information. When market observable data is not available, which generally occurs due to the lack of liquidity for certain securities, the valuation of the security is subjective and may involve substantial judgment. The Company conducts periodic reviews to identify and evaluate each available-for-sale security that has an unrealized loss for other-than-temporary impairment. An unrealized loss exists when the fair value of an individual security is less than its amortized cost basis. The primary factors the Company considers in determining whether an impairment is other-than-temporary are the financial condition and near-term prospects of the issuer, including any specific events which may influence the operations of the issuer and whether the Company intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis. As of June 30, 2013, the Company had approximately $109 of available-for-sale securities, which is approximately 0.01% of total assets, valued using unobservable inputs (Level 3). These securities were primarily non-agency mortgage-backed securities and single issuer subordinated debentures issued by financial institutions.

Results of Operations

Net income for the first six months of 2013 was $7,779, an increase of $1,116 or 16.75% compared with net income of $6,663 for the first six months of 2012. The change in net income was primarily due to increased net interest income and reduced non-interest expense offset in part by lower investment securities gains and to a lesser extent gain on sales of loans.

Total other comprehensive loss for the first six months of 2013 was $11,414 compared to income of $2,383 in 2012. The change was due primarily to a decrease in the unrealized gain (loss) on securities available-for-sale which decreased $24,561 and was due to a sharp rise in interest rates in the second quarter.

Noninterest income decreased $545 or 5.15% for the six months ended June 30, 2013 and resulted primarily from decreased gain on sales of investment securities and loans of $507 and $261 respectively. Service charges and fees on deposits, trust service fees and cash surrender value of bank-owned life insurance increased slightly over the comparable periods. Investment securities losses year to date are $29 as compared to net securities gains of $478 in 2012.

Noninterest expense totaled $21,048 for the six months ended June 30, 2013, a decrease of $1,416, or 6.30% compared to the same period ended June 30, 2012. Notable changes included a decrease of $732 in other real estate losses and a decrease in salaries and other personnel expenses of $402.

Table 2 - Selected Balance Sheet Data


	June 30,		December 31,		Variance
	2013		2012		Amount			%
	(Dollars in thousands)

Cash, due from banks and interest-bearing deposits	$	44,325	$	43,888	$	437			1.00	%
Investment securities		678,570		654,739		23,831			3.64	%
Loans		872,523		871,447		1,076			0.12	%
Other real estate owned		1,096		3,490		(2,394	)		(68.60	%)
Deferred tax asset		17,364		10,406		6,958			66.87	%
Assets		1,693,901		1,662,502		31,399			1.89	%
Deposits		1,442,893		1,421,272		21,621			1.52	%
Securities sold under repurchase agreements		10,718		976		9,742			998.16	%
Advances from Federal Home Loan Bank		64,000		64,000		-			0.00	%
Liabilities		1,562,550		1,526,719		35,831			2.35	%
Stockholders’ equity		131,351		135,783		(4,432	)		(3.26	%)

Table 2 highlights significant changes in the balance sheet at June 30, 2013 as compared to December 31, 2012. Total assets increased $31,399 and reflect an increase in investment securities of $23,831, an increase in deferred tax assets of $6,958, and an increase in total loans of $1,076. The deferred tax asset increased primarily due to the tax effect of the change in value of unrealized gains and losses on securities available-for-sale recognized through other comprehensive income. Total liabilities increased $35,831 and reflect an increase in deposits of $21,621. Stockholders’ equity decreased $4,432 due to a $11,414 decrease in accumulated other comprehensive income.

The Company has continued to maintain a relatively high level of liquid funds in light of current economic conditions but has elected to invest a portion of these funds and funds obtained through deposit growth into the investment portfolio. Investments increased $23,831 or 3.64% from December 31, 2012 to June 30, 2013. Loans declined in the second quarter after increasing during the first quarter and resulted in a minor year-to date increase of $1,076 or 0.12%.

The $21,621 increase in deposits was primarily in noninterest-bearing demand accounts and savings accounts and demand deposits. In addition, brokered deposits increased $1,593 and totaled $152,098 at June 30, 2013 compared to $153,690 at December 31, 2012. Over the same period, time deposits decreased $8,665, noninterest-bearing accounts increased $18,939 and savings and money market accounts increased $11,758.

The annualized return on average assets for the Company was 0.93% for the six months ended June 30, 2013, compared to 0.82% for the same period last year.

The annualized return on average stockholders’ equity was 11.28% for the six months ended June 30, 2013, compared to 11.01% for the same period last year.

Net Interest Income

The primary source of earnings for the Company is net interest income, which is the difference between income on interest-earning assets, such as loans and investment securities, and interest expense incurred on interest-bearing sources of funds, such as deposits and borrowings. The following tables show the average balances of interest-earning assets and interest-bearing liabilities, annualized average yields earned and rates paid on those respective balances, and the actual interest income and interest expense for the periods indicated. Average balances are calculated based on daily balances, yields on non-taxable investments are not reported on a tax equivalent basis and average balances for loans include nonaccrual loans even though interest was not earned.

Table 3 - Average Balances, Income and Expenses, Yields and Rates

	Three Months Ended June 30, 2013							Three Months Ended June 30, 2012
	Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned		Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned
	(Dollars in thousands)
Interest-earning assets:
Loans	$	875,964		5.25	%	$	11,580	$	840,620		5.38	%	$	11,378
Loans held for sale		25,792		2.55	%		164		24,452		2.96	%		180
Investment securities
Taxable		565,593		2.24	%		3,164		571,893		2.66	%		3,805
Tax-exempt		89,087		3.29	%		733		71,255		3.46	%		617
Interest-bearing deposits in other banks		17,417		0.48	%		21		19,242		0.46	%		22
Total interest-earning assets	$	1,573,853		3.96	%	$	15,662	$	1,527,462		4.17	%	$	16,002

Interest-bearing liabilities:
Deposits	$	1,277,117		0.53	%	$	1,683	$	1,277,295		0.75	%	$	2,377
Securities sold under repurchase agreements		1,474		0.27	%		1		4,417		0.72	%		8
Other borrowings		85,547		3.17	%		676		76,999		3.30	%		631
Total interest-bearing liabilities	$	1,364,138		0.69	%	$	2,360	$	1,358,711		0.89	%	$	3,016

Net interest margin/income:				3.36	%	$	13,302				3.38	%	$	12,986

Table 4 - Average Balances, Income and Expenses, Yields and Rates
			��
	Six Months Ended June 30, 2013								Six Months Ended June 30, 2012
	Average Amount			Annualized Average Yield or Rate			Amount Paid or Earned		Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned
	(Dollars in thousands)
Interest-earning assets:
Loans		875,011			5.27	%		23,082		841,377		5.39	%		22,844
Loans held for sale		26,825			2.65	%		353		25,091		3.00	%		374
Investment securities
Taxable		561,956			2.29	%		6,437		554,283		2.69	%		7,443
Tax-exempt		84,781			3.40	%		1,442		70,382		3.48	%		1,224
Interest-bearing deposits in other banks		15,287			0.49	%		37		24,025		0.40	%		47
Total interest-earning assets	$	1,563,860			4.01	%	$	31,351	$	1,515,158		4.19	%	$	31,932

Interest-bearing liabilities:
Deposits	$	1,276,613			0.55	%	$	3,513	$	1,274,875		0.80	%	$	5,091
Securities sold under repurchase agreements		1,188			0.34	%		2		2,585		0.70	%		9
Other borrowings		85,547			3.17	%		1,345		75,572		3.26	%		1,227
Total interest-bearing liabilities	$	1,363,348			0.72	%	$	4,860	$	1,353,032		0.94	%	$	6,327

Net interest margin/income:					3.38	%	$	26,491				3.35	%	$	25,605

Second Quarter 2013 compared to Second Quarter 2012:

Net interest income increased $316 (2.43%) during the three month period as compared to the same period in 2012 and resulted primarily from lower rates paid on deposits.

Loan interest income increased $202 (1.78%) in the three month period as compared to the same period in the prior year. The change resulted primarily from a $35,344 increase in average loans but was offset by lower yields, which decreased from 5.38% to 5.25%. Nonaccrual loans resulted in the reversal of $88 in interest income compared to $118 in the same period in 2012.

Deposit interest expense decreased $694 (29.20%) in the three month period as compared to the same period in the prior year, primarily as a result of lower rates paid on the Company’s checking and savings account products. Due to these reductions and the low interest rate environment, the annualized average rate of interest bearing liabilities decreased from 0.89% at June 30, 2012 to 0.69% at June 30, 2013.

The Company’s net interest margin for the quarter was relatively unchanged at 3.36% as compared to 3.38% for the 2012 quarter. The minor decrease in the net interest margin was due to asset yields declining slightly faster than liability costs. In addition, the Company increased the tax exempt investment securities portfolio. Average tax exempt investment securities increased $17,832 (25.03%) while the average yield decreased from 3.46% to 3.29%. Average interest bearing deposits were relatively unchanged but the average rate paid decreased from 0.75% to 0.53%. Average other borrowings increased $8,548 (11.10%) and was due primarily to an increase in advances from the Federal Home Loan Bank. The average cost declined from 3.30% to 3.17%.

Six Months Ended 2013 compared to Six Months Ended 2012:

Net interest income increased $886 (3.46%) during the six month period as compared to the same period in 2012 and resulted primarily from lower rates paid on deposits.

Loan interest income was essentially unchanged, increasing $238 (1.04%) in the six month period. The change resulted primarily from a $33,634 increase in average loans but was offset by lower yields, which decreased from 5.39% to 5.27%. Nonaccrual loans resulted in the reversal of $107 in interest income compared to $201 in 2012.

Deposit interest expense decreased $1,578 (31.00%) in the six month period as compared to the same period in the prior year, primarily as a result of lower rates paid on the Company’s checking and savings account products. Due to these reductions and the low interest rate environment, the annualized average rate of interest bearing liabilities decreased from 0.94% at June 30, 2012 to 0.72% at June 30, 2013.

The Company’s net interest margin for the six months ended June 30, 2013 was relatively unchanged at 3.38% as compared to 3.35% for the six months ended June 30, 2012. The minor increase in the net interest margin was due primarily to interest bearing liability costs declining slightly faster than asset yields. In addition, the Company added to both its taxable and tax exempt investment securities portfolios. Average taxable investment securities increased $7,673 (1.38%) while the average yield decreased from 2.69% to 2.29%. Average tax exempt investment securities increased $14,399 (20.46%) while the average yield decreased from 3.48% to 3.40%. Average interest bearing deposits were relatively unchanged and increased $1,738 (0.14%) while the average rate paid decreased from 0.80% to 0.55%. Average other borrowings increased $9,975 (13.20%) and was due primarily to an increase in advances from Federal Home Loan Bank. The average cost declined from 3.26% to 3.17%.

Changes in net interest income from period to period result from increases or decreases in the volume of interest-earning assets and interest-bearing liabilities, increases or decreases in the average rates earned and paid on such assets and liabilities, the ability to manage the earning asset portfolio, and the availability of particular sources of funds, such as noninterest-bearing deposits. The following tables present the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have impacted the Company’s interest income and interest expense during the periods indicated. Information is provided in each category with respect to changes attributable to change in volume (change in volume multiplied by prior rate), changes attributable to change in rate (change in rate multiplied by prior volume), and changes in rate/volume (change in rate multiplied by change in volume).

Table 5 - Rate/Volume Analysis

	Three Months Ended
	June 30, 2013 compared to June 30, 2012
	Increase (Decrease) due to
	Volume			Rate			Combined			Total
Interest-earning assets:	(Dollars in thousands)
Loans		478			(265	)		(11	)		202
Loans held for sale		10			(25	)		(1	)		(16	)
Investment securities
Taxable		(42	)		(606	)		7			(641	)
Tax-exempt		155			(31	)		(8	)		116
Interest-bearing deposits in other banks		(2	)		1			-			(1	)
Total interest-earning assets		599			(926	)		(13	)		(340	)

Interest-bearing liabilities:
Deposits		-			(694	)		-			(694	)
Securities sold under repurchase agreements		(5	)		(5	)		3			(7	)
Other borrowings		70			(23	)		(2	)		45
Total interest-bearing liabilities		65			(722	)		1			(656	)

Net change in net interest income										$	316

Table 6- Rate/Volume Analysis

	Six Months Ended
	June 30, 2013 compared to June 30, 2012
	Increase (Decrease) due to
	Volume			Rate			Combined			Total
Interest-earning assets:	(Dollars in thousands)
Loans		913			(649	)		(26	)		238
Loans held for sale		26			(44	)		(3	)		(21	)
Investment securities
Taxable		103			(1,094	)		(15	)		(1,006	)
Tax-exempt		251			(27	)		(6	)		218
Interest-bearing deposits in other banks		(17	)		11			(4	)		(10	)
Total interest-earning assets		1,276			(1,803	)		(54	)		(581	)

Interest-bearing liabilities:
Deposits		7			(1,583	)		(2	)		(1,578	)
Securities sold under repurchase agreements		(5	)		(5	)		3			(7	)
Other borrowings		162			(39	)		(5	)		118
Total interest-bearing liabilities		164			(1,627	)		(4	)		(1,467	)

Net change in net interest income										$	886

Provision for Loan Losses

The provision for loan losses is the charge to operating earnings necessary to maintain the allowance for loan losses at a level which, in management’s estimate, is adequate to cover the estimated amount of probable incurred losses in the loan portfolio. The provision for loan losses totaled $2,414 for the three months ended June 30, 2013 compared to $1,950 for the three months ended June 30, 2012 and $4,159 for the six months ended June 30, 2013 compared to $4,166 for the same period in 2012. See “Allowance for Loan Losses” for further analysis of the provision for loan losses.

Noninterest Income

Table 7 - Noninterest Income

	Three Months Ended										Six Months Ended
	June 30,				Variance						June 30,					Variance
	2013		2012		Amount			%			2013			2012		Amount			%
	(Dollars in thousands)										(Dollars in thousands)

Service charges and fees on deposits	$	1,794	$	1,685	$	109			6.47	%	$	3,468		$	3,296	$	172			5.22	%
Gain on sales of loans		2,155		2,362		(207	)		(8.76	%)		4,057			4,318		(261	)		(6.04	%)
Gain on sale of fixed assets, net		16		8		8			100.00	%		21			6		15			250.00	%
Investment securities gains (losses), net of other-than-temporary impairment		15		92		(77	)		(83.70	%)		(29	)		469		(498	)		(106.18	%)
Retail investment income		487		505		(18	)		(3.56	%)		988			1,027		(39	)		(3.80	%)
Trust services fees		284		288		(4	)		(1.39	%)		589			577		12			2.08	%
Earnings from cash surrender value of bank-owned life insurance		288		265		23			8.68	%		571			526		45			8.56	%
Miscellaneous income		187		176		11			6.25	%		375			366		9			2.46	%
Total noninterest income	$	5,226	$	5,381	$	(155	)		(2.88	%)	$	10,040		$	10,585	$	(545	)		(5.15	%)

Second Quarter 2013 compared to Second Quarter 2012:

Noninterest income decreased $155 (2.88%) during the three month period as compared to the same period in 2012. The most significant change for the three month period was a decrease in gain on sales of loans of $207 (8.76%) due to lower volume of mortgage originations. Investment securities (losses) gains decreased $77 and retail investment income and trust services fees declined $18 and $4 respectively. Partially offsetting these decreases were service charges and fees on deposits which increased $109 and resulted from increased commercial and consumer overdraft fees of $74 and increased interchange fees of $56. Earnings from cash surrender value of bank-owned life insurance increased $23 due to an increase in bank-owned life insurance of $4,157 over the comparable period in 2012. Trust service fees and retail investment income decreased slightly in the comparable periods.

Six Months Ended 2013 compared to Six Months Ended 2012:

Noninterest income decreased $545 (5.15%) during the six month period as compared to the same period in 2012. The most significant change for the six month period was a decrease in investment securities (losses) gains which was a net loss of $29 in 2013 compared to a net of gain of $478 in 2012. Service charges and fees on deposits increased $172 and resulted from increased commercial and consumer overdraft fees of $120 and increased interchange fees of $94. Earnings from cash surrender value of bank-owned life insurance increased $45 due to an increase in bank-owned life insurance of $4,157 in the comparable periods. Trust service fees increased slightly and retail investment income decreased slightly in the comparable periods.

Noninterest Expense

Table 8 - Noninterest Expense

	Three Months Ended										Six Months Ended
	June 30,				Variance						June 30,				Variance
	2013		2012		Amount			%			2013		2012		Amount			%
	(Dollars in thousands)										(Dollars in thousands)
Salaries and other
personnel expense	$	6,141	$	6,543	$	(402	)		(6.14	%)	$	12,338	$	12,740	$	(402	)		(3.16	%)
Occupancy expenses		939		1,043		(104	)		(9.97	%)		1,874		2,097		(223	)		(10.63	%)
Marketing & business development		460		388		72			18.56	%		909		778		131			16.84	%
Processing expense		507		460		47			10.22	%		1,048		920		128			13.91	%
Legal and professional fees		380		388		(8	)		(2.06	%)		784		821		(37	)		(4.51	%)
Data processing expense		360		354		6			1.69	%		736		733		3			0.41	%
FDIC insurance		357		400		(43	)		(10.75	%)		765		779		(14	)		(1.80	%)
Communications expense		214		177		37			20.90	%		359		366		(7	)		(1.91	%)
Loss on sale of other real estate		59		638		(579	)		(90.75	%)		69		852		(783	)		(91.90	%)
Provision for other real estate losses		148		50		98			196.00	%		548		497		51			10.26	%
Loan costs (excluding OREO)		124		543		(419	)		(77.16	%)		410		680		(270	)		(39.71	%)
Other operating expenses		599		620		(21	)		(3.39	%)		1,208		1,201		7			0.58	%
Total noninterest expense	$	10,288	$	11,604	$	(1,316	)		(11.34	%)	$	21,048	$	22,464	$	(1,416	)		(6.30	%)

Second Quarter 2013 compared to Second Quarter 2012:

Noninterest expense decreased $1,316 (11.34%) during the three month period as compared to the same period in 2012. The most significant changes for the three month period were decreased losses on OREO and loan costs, which decreased $481 and $419 respectively. Salaries and other personnel expense decreased $402 (6.14%) due primarily to reduced staff, retirement and other benefit plan costs.

Other real estate losses totaled $207 for the three month period as compared to $688 in the 2012 period. The Company began to advertise at a higher level in 2013, causing marketing expense to increase. FDIC insurance decreased slightly during the three month period as compared to the same period in 2012, and legal expenses declined somewhat in 2013.

Occupancy expense decreased $104 (9.97%) during the three month period as compared to the same period in the prior year and was primarily due to a $79 decrease in depreciation expense resulting from certain assets becoming fully depreciated.

Six Months Ended 2013 compared to Six Months Ended 2012:

Noninterest expense decreased $1,416 (6.30%) during the six month period as compared to the same period in 2012. The most significant changes for the six month period were decreased losses on OREO and loans costs, which decreased $732 and $270 respectively, and salaries and other personnel expense, which declined $402 due primarily to reduced staff, retirement and other benefit plan costs.

Other real estate losses totaled $617 for the six month period as compared to $1,349 in the 2012 period. The Company began to advertise at a slightly higher level in 2013, causing marketing expense to increase. FDIC insurance decreased slightly during the six month period as compared to the same period in 2012, and legal expenses declined somewhat in 2013.

Occupancy expense decreased $223 (10.63%) during the six month period as compared to the same period in the prior year and was primarily due to a $174 decrease in depreciation expense resulting from certain assets becoming fully depreciated.

Income Taxes

The Company recognized income tax expense of $1,824 and $3,545 for the three and six months ended June 30, 2013 as compared to an income tax expense of $1,452 and $2,897 for the same periods in 2012. The increase in pretax income resulted in an increase in income tax expense and a slightly higher effective income tax rate for the three and six month periods. The effective income tax rate for the three and six months ended June 30, 2013 was 31.31%.

At June 30, 2013, the Company maintains net deferred tax assets of $17,364. A valuation allowance is required for deferred tax assets if, based on available evidence, it is more likely than not that all or some portion of the asset may not be realized due to the inability to generate sufficient taxable income in the period and/or of the character necessary to utilize the benefit of the deferred tax asset. In making this assessment, all sources of taxable income available to realize the deferred tax asset are considered including taxable income in prior carry-back years, future reversals of existing temporary differences, tax planning strategies and future taxable income exclusive of reversing temporary differences and carryforwards. Based on management’s assessment, no valuation allowance was deemed necessary at June 30, 2013.

Loans

The following table presents the composition of the Company’s loan portfolio as of June 30, 2013 and December 31, 2012.

Table 9 - Loan Portfolio Composition

	June 30, 2013					December 31, 2012
	Amount		%			Amount		%
	(Dollars in thousands)

Commercial financial and agricultural	$	177,108		20.30	%	$	174,553		20.03	%
Real estate
Commercial		339,472		38.91	%		343,663		39.44	%
Residential		167,828		19.23	%		168,039		19.28	%
Acquisition, development and construction		174,686		20.02	%		171,750		19.71	%
Total real estate		681,986		78.16	%		683,452		78.43	%
Consumer
Direct		12,800		1.46	%		12,785		1.47	%
Indirect		51		0.01	%		105		0.01	%
Revolving		515		0.06	%		502		0.05	%
Total consumer		13,366		1.53	%		13,392		1.53	%
Deferred loan origination costs (fees)		63		0.01	%		50		0.01	%
Total	$	872,523		100.00	%	$	871,447		100.00	%

At June 30, 2013, the loan portfolio is comprised of 78.16% real estate loans. Commercial, financial and agricultural loans comprise 20.30%, and consumer loans comprise 1.53% of the portfolio.

Commercial real estate comprises 38.91% of the loan portfolio and consists of both non-owner occupied and owner occupied properties, where the operations of the commercial entity provide the necessary cash flow to service the debt. For this portion of the real estate loan portfolio, repayment is generally not dependent upon the sale of the real estate held as collateral. Acquisition, development and construction loans comprise 20.02% of the loan portfolio and the Company has recognized significant losses in this portfolio. The Company carefully monitors the loans in this category since the repayment of these loans is generally dependent upon the sale of the real estate in the normal course of business and can be impacted by national and local economic conditions. New construction and absorption of existing real estate inventory in the Company’s primary market area of the Augusta-Richmond County, GA-SC MSA have slowed and prices have declined but less than the national rate. The residential category, 19.23% of the portfolio, represents those loans that the Company chooses to maintain in its portfolio rather than selling into the secondary market for marketing and competitive reasons and commercial loans secured by residential real estate.

The Company has no large loan concentrations to individual borrowers. Unsecured loans at June 30, 2013 totaled $18,233.

Interest reserves are established for certain ADC (acquisition development and construction) loans based on the feasibility of the project, the timeframe for completion, the creditworthiness of the borrower and guarantors, and collateral. An interest reserve allows the borrower’s interest cost to be capitalized and added to the loan balance. As a matter of practice GB&T does not generally establish loan funded interest reserves on ADC loans; however, the Company’s loan portfolio includes two loans with interest reserves at June 30, 2013. One was approved for $10,000 with a reserve of $550. As of June 30, 2013, $3,483 had been disbursed and $22 of the interest reserve was advanced. The second loan was approved for $10,500 with a reserve of $375. As of June 30, 2013, $0 had been disbursed and $0 of the interest reserve had been advanced. These ADC loans have not been renewed or restructured and as of June 30, 2013, are not on nonaccrual.

Underwriting for ADC loans with interest reserves follows the same process as those loans without reserves. In order for GB&T to establish a loan-funded interest reserve, the borrower must have the ability to repay without the use of a reserve and a history of developing and stabilizing similar properties. All ADC loans, including those with interest reserves, are carefully monitored through periodic construction site inspections by bank employees or third party inspectors to ensure projects are moving along as planned. Management assesses the appropriateness of the use of interest reserves during the entire term of the loan as well as the adequacy of the reserve. Collateral inspections are completed before approval of advances.

Loan Review and Classification Process

The Company maintains a loan review and classification process which involves multiple officers of the Company and is designed to assess the general quality of credit underwriting and to promote early identification of potential problem loans. All loan officers are charged with the responsibility of risk rating all loans in their portfolios and updating the ratings, positively or negatively, on an ongoing basis as conditions warrant. Risk ratings are selected from an 8-point scale with ratings as follows: ratings 1- 4 Satisfactory (pass), rating 5 Watch (potential weakness), rating 6 Substandard (well-defined weakness), rating 7 Doubtful and rating 8 Loss.

When a loan officer originates a new loan, he or she documents the credit file with an offering sheet summary, supplemental underwriting analyses, relevant financial information and if applicable, collateral evaluations. All of this information is used in the determination of the initial loan risk rating. Then, the Company’s Credit Administration department undertakes an independent credit review of that relationship in order to validate the lending officer’s rating. Lending relationships with total related exposure of $500 or greater are also placed into a tracking database and reviewed by Credit Administration personnel on an annual basis in conjunction with the receipt of updated borrower and guarantor financial information. The individual loan reviews analyze such items as: loan type; nature, type and estimated value of collateral; borrower and/or guarantor estimated financial strength; most recently available financial information; related loans and total borrower exposure; and current/anticipated performance of the loan. The results of such reviews are presented to Executive Management.

Through the review of delinquency reports, updated financial statements or other relevant information in the normal course of business, the lending officer and/or Credit Administration review personnel may determine that a loan relationship has weakened to the point that a criticized (loan grade 5) or classified (loan grade 6 through 8) status is warranted. When a loan relationship with total related exposure of $200 or greater is adversely graded (5 or above), the lending officer is then charged with preparing a Classified/Watch report which outlines the background of the credit problem, current repayment status of the loans, current collateral evaluation and a workout plan of action. This plan may include goals to improve the credit rating, assisting the borrower in moving the loans to another institution and/or collateral liquidation. All such Classified/Watch reports are reviewed on a quarterly basis by members of Executive Management at a regularly scheduled meeting in which each lending officer presents the workout plans for their criticized credit relationships.

Depending upon the individual facts, circumstances and the result of the Classified/Watch review process, Executive Management may categorize the loan relationship as impaired. Once that determination has occurred, Executive Management in conjunction with Credit Administration personnel, will complete an evaluation of the collateral (for collateral-dependent loans) based upon appraisals on file adjusting for current market conditions and other local factors that may affect collateral value. This subjective evaluation may produce an initial specific allowance for placement in the Company’s Allowance for Loan Losses calculation. As soon as practical, updated appraisals on the collateral backing that impaired loan relationship are ordered. When the updated appraisals are received, Executive Management with assistance from Credit Administration department personnel reviews the appraisal, and updates the specific allowance analysis for each loan relationship accordingly. The Director’s Loan Committee reviews on a quarterly basis the Classified/Watch reports including changes in credit grades of 5 or higher as well as all impaired loans, the related allowances and other real estate owned.

In general, once the specific allowance has been finalized, Executive Management will authorize a charge-off prior to the following calendar quarter-end in which that reserve calculation is finalized.

The review process also provides for the upgrade of loans that show improvement since the last review.

Nonperforming Assets

Non-performing assets include nonaccrual loans, loans past due 90 days or more, restructured loans and other real estate owned. Table 10 shows the current and prior period amounts of non-performing assets. Non-performing assets were $35,258 at June 30, 2013, compared to $34,602 at December 31, 2012 and $43,743 at June 30, 2012. Significant changes from June 2012 to June 2013 included a $6,677 decrease in other real estate owned, a $3,948 decrease in nonaccrual commercial real estate loans, a decrease in commercial nonaccrual loans of $1,245 and a $2,146 increase in ADC nonaccrual loans.

Loans past due 90 days or more and still accruing totaled $10 at June 30, 2012. There were no loans past due 90 days or more and still accruing at June 30, 2013 and December 31, 2012.

Troubled debt restructurings (TDRs) are troubled loans in which the original terms have been modified in favor of the borrower or either principal or interest has been forgiven due to deterioration in the borrower’s financial condition. There were $5,975 in TDRs at June 30, 2013, of which $2,564 were on nonaccrual status. TDRs totaled $2,711 at December 31, 2012, of which $1,796 were on nonaccrual status, and $2,169 at June 30, 2012, of which $1,113 were on nonaccrual status.

Table 10 - Non-Performing Assets


	June 30, 2013			December 31, 2012			June 30, 2012
	(Dollars in thousands)
Nonaccrual loans:
Commercial financial and agricultural	$	1,073		$	2,358		$	2,318
Real Estate:
Commercial		11,234			11,736			15,182
Residential		4,791			6,291			5,679
Acquisition, development and construction		13,589			9,712			11,443
Consumer		64			100			292
Total Nonaccrual loans		30,751			30,197			34,914
Restructured loans (1)		3,411			915			1,056
Other real estate owned		1,096			3,490			7,773
Total Non-performing assets	$	35,258		$	34,602		$	43,743

Loans past due 90 days or more and still accruing interest	$	-		$	-		$	10

Non-performing assets to total assets		2.08	%		2.08	%		2.63	%

Non-performing assets to period end loans and OREO		4.04	%		3.95	%		5.11	%

Allowance for loan loss to period end nonaccrual loans		88.63	%		95.53	%		84.64	%

(1) Restructured loans on nonaccrual status at period end are included under nonaccrual loans in the table.

The ratio of non-performing assets to total loans and other real estate was 4.04% at June 30, 2013 compared to 3.95% at December 31, 2012 and 5.11% at June 30, 2012. The ratio of allowance for loan losses to total nonaccrual loans was 88.63% at June 30, 2013 compared to 95.53% at December 31, 2012 and 84.64% at June 30, 2012. The resolution of non-performing assets continues to be a priority of management.

Nonaccrual loans decreased $4,163 (11.92%) from June 30, 2012 due primarily to a decline in nonaccrual commercial, commercial real estate and residential real estate loans of $1,245, $3,948 and $888 respectively and offset in part by an increase of $2,146 in nonaccrual ADC loans. The decrease in commercial real estate loans was due in part to an upgrade to accrual status on a hotel property of approximately $2,638 that became categorized as a troubled debt restructure based on a repayment plan confirmed by bankruptcy court. Other decreases were related to foreclosures, subsequent sales and write downs on several properties. The increase in ADC nonaccrual loans was due primarily to the addition of a $5,599 loan participation secured by retail centers offset in part by similar foreclosures, subsequent sales and write downs of other ADC loans. Although the exposure has declined, a significant portion of nonaccrual loans continues to be collateral-dependent ADC and commercial real estate loans. The following table provides further information regarding the Company’s nonaccrual loans.

Table 11 - Nonaccrual Loans

Nonaccrual

Appraisal

Appraised

Balance

Originated

Date

Trigger

Collateral

Allowance

Method

Date

Value

(Dollars in thousands)

ADC Loan - CSRA

3,850

06/18/08

03/11-11/11

financial condition

lots & land

collateral value

08/12

7,271

ADC Loan - Other

1,545

09/30/08

05/06/10

delinquency

lots & land

collateral value

09/12

1,534

ADC Loan - Other

5,599

03/23/07

05/06/13

financial condition

retail centers

collateral value

9/11 - 10/11

5,599

Commercial Real Estate

6,454

08/08-01/11

11/18/11

bankruptcy

hotels & restaurant

collateral value

12/12

12,670

Commercial Real Estate

2,268

08/04/11

05/06/13

financial condition

golf course

collateral value

06/13

2,465

ADC Loan - CSRA

1,776

12/28/11

12/28/12

financial condition

land

collateral value

03/13

2,573

21,492

Other, net

9,259

Nonaccrual loans at June 30, 2013

30,751

The following table presents a roll forward of other real estate owned for the six month periods ended June 30, 2013 and 2012, respectively.

Table 12 - Other Real Estate Owned


	2013			2012
	(Dollars in thousands)

Beginning balance, January 1	$	3,490		$	6,209
Additions		307			6,623
Increase in valuation allowance		(548	)		(497	)
Sales		(2,084	)		(3,710	)
Loss on sale of OREO		(69	)		(852	)
Ending balance, June 30	$	1,096		$	7,773

The following table provides details of other real estate owned as of June 30, 2013, December 31, 2012 and June 30, 2012, respectively.


	June 30, 2013			December 31, 2012			June 30, 2012
	(Dollars in thousands)
Other Real Estate:
Real Estate
Commercial	$	200		$	2,838		$	6,349
Residential		40			180			17
Acquisition, development and construction		1,530			1,559			2,924
		1,770			4,577			9,290

Valuation allowance		(674	)		(1,087	)		(1,517	)
	$	1,096		$	3,490		$	7,773

The decrease in other real estate owned is due to the continuing process of resolving problem loans. In the first six months of 2013, additions to other real estate owned totaled $307 and proceeds from sales of other real estate totaled $2,084. In addition, there was a $548 increase to the valuation allowance.

Allowance for Loan Losses

The allowance for loan losses represents an allocation for the estimated amount of probable incurred losses in the loan portfolio. The adequacy of the allowance for loan losses is evaluated periodically based on a review of all significant loans, with particular emphasis on impaired, non-accruing, past due, and other loans that management believes require special attention. The determination of the allowance for loan losses is considered a critical accounting estimate of the Company. See “Critical Accounting Estimates.”

While management uses available information to recognize losses on loans, future additions to the allowance 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 Company’s allowance for loan losses. Such agencies may advise additions to the allowance based on their judgments about information available to them at the time of their examination. Such regulatory guidance is considered, and the Company may recognize additions to the allowance as a result.

Additions to the allowance for loan losses are made periodically to maintain the allowance at an appropriate level based upon management’s analysis of risk in the loan portfolio. Loans determined to be uncollectible are charged to the allowance for loan losses and subsequent recoveries are added to the allowance. A provision for losses in the amount of $2,414 was charged to expense for the three months ended June 30, 2013 compared to $1,950 for the three months ended June 30, 2012 and $4,159 was charged to expense for the six months ended June 30, 2013 compared to $4,166 for the six months ended June 30, 2012.

At June 30, 2013 the ratio of allowance for loan losses to period end loans was 3.12% compared to 3.31% at December 31, 2012 and 3.49% at June 30, 2012. The lower overall level of allowance as a percentage of the portfolio is due in part to the decline in the average historical net loss rate (see Footnote 1 ALLL Methodology). In addition the level was also affected by a decrease in substandard rated credits excluding impaired loans, which decreased $7,799 or 30.39%, and to a lesser degree a decrease in loans collectively evaluated for impairment which decreased $3,234 or 0.38%.

Net charge-offs totaled $5,751, of which $2,913, or 50.65%, were related to commercial real estate loans, $1,748 or 30.39% were related to acquisition development and construction loans and $756 or 13.15% were related to residential mortgage real estate loans. The provisions for loan losses allocated to individual portfolio segments are affected by the calculation of average historical net loss rate factors and by the internal and external qualitative factors within each category.

Management considers the current allowance for loan losses appropriate based upon its analysis of risk in the portfolio using the methods previously discussed. Management’s judgment is based upon a number of assumptions about events which are believed to be reasonable, but which may or may not prove correct. While it is the Company’s policy to charge off in the current period the loans in which a loss is considered probable, there are additional risks of losses which cannot be quantified precisely or attributed to a particular loan or class of loans. Because management evaluates such factors as changes in the nature and volume of the loan portfolio, historical loss rates, overall portfolio quality, review of specific problem loans, and current economic conditions and trends that may affect a borrower’s ability to repay, management’s judgment as to the adequacy of the allowance is necessarily approximate and imprecise. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance will not be required.

Liquidity and Capital Resources

The Company has maintained adequate liquidity to meet operating and loan funding requirements. The loan to deposit ratio at June 30, 2013 was 60.47% compared to 61.31% at December 31, 2012 and 59.08% at June 30, 2012. Deposits at June 30, 2013 and December 31, 2012 include $152,098 and $153,690 of brokered certificates of deposit, respectively. GB&T has also utilized borrowings from the Federal Home Loan Bank. GB&T maintains a line of credit with the Federal Home Loan Bank approximating 10% of its total assets. Federal Home Loan Bank advances are collateralized by eligible first mortgage loans, commercial real estate loans and investment securities. Federal Home Loan Bank advances totaled $64,000 at June 30, 2013. GB&T maintains repurchase lines of credit with SunTrust Robinson Humphrey, Atlanta, Georgia, for advances up to $20,000, of which $10,000 were outstanding at June 30, 2013 and a $10,000 repurchase line of credit with Center State Bank, Orlando, Florida, of which none were outstanding at June 30, 2013. GB&T has a federal funds purchased accommodation with SunTrust Bank, Atlanta, Georgia for advances up to $10,000, of which none were outstanding at June 30, 2013 and a federal funds purchased accommodation with Center State Bank, Orlando, Florida, for advances up to $10,000, of which none were outstanding at June 30, 2013. The Company also maintains a borrowing facility at the Federal Reserve Bank, under the Borrower-In-Custody Program, of which none were outstanding at June 30, 2013. Additionally, liquidity needs can be supplemented by the structuring of the maturities of investment securities and the pricing and maturities on loans and deposits offered to customers. The Company also uses retail securities sold under repurchase agreements to fund operations. Retail securities sold under repurchase agreements were $718 at June 30, 2013.

Stockholders’ equity to total assets was 7.75% at June 30, 2013 compared to 8.17% at December 31, 2012 and 7.57% at June 30, 2012. The capital of the Company exceeded all required regulatory guidelines at June 30, 2013. The Company’s Tier 1 risk-based, total risk-based and leverage capital ratios were 13.56%, 14.83%, and 9.20%, respectively, at June 30, 2013.

The following table reflects the current regulatory capital levels in more detail, including comparisons to the regulatory minimums.

Table 13 - Regulatory Capital Requirements
June 30, 2013

	Actual					Required					Excess
	Amount		Percent			Amount		Percent			Amount		Percent
	(Dollars in thousands)
Southeastern Bank Financial Corporation

Risk-based capital:
Tier 1 capital	$	154,674		13.56	%		45,619		4.00	%		109,055		9.56	%
Total capital		169,090		14.83	%		91,238		8.00	%		77,852		6.83	%
Tier 1 leverage ratio		154,674		9.20	%		67,239		4.00	%		87,435		5.20	%

Georgia Bank & Trust Company

Risk-based capital:
Tier 1 capital	$	149,441	13.12	%	45,560	4.00	%	103,881	9.12	%
Total capital		163,839	14.38	%	91,120	8.00	%	72,719	6.38	%
Tier 1 leverage ratio		149,441	8.91	%	75,466	4.50	%	73,975	4.41	%

Georgia Bank & Trust Company is regulated by the Department of Banking and Finance of the State of Georgia (DBF). The DBF requires that state banks in Georgia generally maintain a minimum ratio of Tier 1 capital to total assets of four and one-half percent (4.50%).

On July 2, 2013, the Federal Reserve approved final rules that substantially amend the regulatory risk-based capital rules applicable to the Company and the Bank. On July 9, 2013, the FDIC also approved, as an interim final rule, the regulatory capital requirements for U.S. banks, following the actions of the Federal Reserve. The final rules implement the “Basel III” regulatory capital reforms, as well as certain changes required by the Dodd-Frank Act.

The final rules include new risk-based capital and leverage ratios that will be phased in from 2015 to 2019. The rules include a new common equity Tier 1 capital to risk-weighted assets ratio of 4.5% and a common equity Tier 1 capital conservation buffer of 2.5% of risk-weighted assets, which is in addition to the Tier 1 and Tier 2 risk-based capital requirements. The final rules also raise the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0% and require a minimum leverage ratio of 4.0%. The required minimum ratio of total capital to risk-weighted assets will remain 8.0%. The new risk-based capital requirements (except for the capital conservation buffer) will become effective for the Company on January 1, 2015. The capital conservation buffer will be phased in over four years beginning on January 1, 2016, with a maximum buffer of 0.625% of risk-weighted assets for 2016, 1.25% for 2017, 1.875% for 2018, and 2.5% for 2019 and thereafter. Failure to maintain the required capital conservation buffer will result in limitations on capital distributions and on discretionary bonuses to executive officers.

The following chart compares the risk-based capital ratios required under existing Federal Reserve rules to those prescribed under the new final rules under the phase-in period described above:


		Current Rules	Final Rules
Common Equity Tier 1
	Capital Conservation Buffer	-	2.5%
Tier 2		4.0%	2.0%
Additional Tier 1		-	1.5%
Tier 1		4.0%	-
Common Equity Tier 1		-	4.5%

The final rules also implement revisions and clarifications consistent with Basel III regarding the various components of Tier 1 capital, including common equity, unrealized gains and losses and instruments that will no longer qualify as Tier 1 capital. The final rules provide that depository holding companies with less than $15 billion in total assets as of December 31, 2009, such as the Company, may permanently include trust preferred securities and certain other non-qualifying instruments issued and included in Tier 1 or Tier 2 capital before May 19, 2010 in additional Tier 1 (subject to a maximum of 25% of Tier 1 capital) or Tier 2 capital until maturity or redemption.

The final rules also set forth certain changes for the calculation of risk-weighted assets that the Company will be required to implement beginning January 1, 2015. Management is currently evaluating the provisions of the final rules and their expected impact on the Company. Based on the Company’s current capital composition and levels, management does not presently anticipate that the final rules present a material risk to the Company’s financial condition or results of operations.

Except as set forth above, management is not aware of any other events or uncertainties that are reasonably likely to have a material effect on the Company’s liquidity, capital resources or operations.

Commitments and Contractual Obligations

The Company is party to lines of credit with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. Lines of credit are unfunded commitments to extend credit. These instruments involve, in varying degrees, exposure to credit and interest rate risk in excess of the amounts recognized in the financial statements. The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for unfunded commitments to extend credit and letters of credit is represented by the contractual amount of those instruments. The Company evaluates acquisition, development and construction loans for the percentage completed before extending additional credit. The Company follows the same credit policies in making commitments and contractual obligations as it does for on-balance sheet instruments.

Unfunded commitments to extend credit where contract amounts represent potential credit risk totaled $190,520 at June 30, 2013. This includes standby letters of credit of $6,502 at June 30, 2013. These commitments are primarily at variable interest rates.

The Company’s commitments are funded through internal funding sources of scheduled repayments of loans and sales and maturities of investment securities available-for-sale or external funding sources through acceptance of deposits from customers or borrowings from other financial institutions.

The following table is a summary of the Company’s commitments to extend credit, commitments under contractual leases as well as the Company’s contractual obligations, consisting of deposits, FHLB advances, which are subject to early termination options, borrowed funds and benefit plans by contractual maturity date.

Table 14 - Commitments and Contractual Obligations

	Less than 1 Year		1 - 3 Years		3 - 5 Years		More than 5 Years
	(Dollars in thousands)

Lines of credit	$	184,018		-		-		-
Standby letters of credit		6,502		-		-		-
Lease agreements		216		379		113		-
Deposits		1,224,366		144,276		73,070		1,181
Securities sold under repurchase agreements		10,718		-		-		-
Salary continuation agreements		128		470		1,316		28,360
FHLB advances		-		-		45,000		19,000
Subordinated debentures		1,547		-		-		20,000
Total commitments and contractual obligations	$	1,427,495	$	145,125	$	119,499	$	68,541

Although management regularly monitors the balance of outstanding commitments to fund loans to ensure funding availability should the need arise, management believes that the risk of all customers fully drawing on all these lines of credit at the same time is remote.

Effects of Inflation and Changing Prices

Inflation generally increases the cost of funds and operating overhead, and to the extent loans and other assets bear variable rates, the yields on such assets. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on the performance of a financial institution than the effects of general levels of inflation. Although interest rates do not necessarily move in the same direction and to the same extent as the prices of goods and services, increases in inflation generally have resulted in increased interest rates. In addition, inflation can increase a financial institution’s cost of goods and services purchased, the cost of salaries and benefits, occupancy expense and similar items. Inflation and related increases in interest rates generally decrease the market value of investments and loans held and may adversely affect liquidity, earnings, and stockholders’ equity. Mortgage originations and refinances tend to slow as interest rates increase, and can reduce the Company’s earnings from such activities and the income from the sale of residential mortgage loans in the secondary market.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

As of June 30, 2013, there were no substantial changes in the interest rate sensitivity analysis or the sensitivity of market value of portfolio equity for various changes in interest rates calculated as of December 31, 2012. A detailed discussion of market risk is provided in the Company’s 2012 Annual Report on Form 10-K.

Item 4. Controls and Procedures

As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s President and Chief Executive Officer (principal executive officer) and its Group Vice President and Chief Financial Officer (principal financial officer), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, such officers concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) that is required to be included in the Company’s periodic filings with the Securities and Exchange Commission. There have been no changes in the Company’s internal controls or, to the Company’s knowledge, in other factors during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.

Part II

OTHER INFORMATION

Item 1. Legal Proceedings

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

Item 1A. Risk Factors

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012, which could materially affect its business, financial condition or future results. The risks described in the Annual Report on Form 10-K are not the only risks facing the Company. Additional risks and uncertainties not currently known to management or that management currently deems to be immaterial also may materially adversely affect the Company’s business, financial condition and/or operating results.

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

Issuer Purchases of Equity Securities

On April 15, 2004, the Company announced the commencement of a stock repurchase program, pursuant to which it will, from time to time, repurchase up to 100,000 shares of its outstanding stock. The program does not have a stated expiration date. No stock repurchase programs were terminated during the second quarter of 2013 and there were no shares repurchased under the existing stock repurchase plan or otherwise during the second quarter.

Item 3. Defaults Upon Senior Securities

Not applicable

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

None

Item 6. Exhibits

31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2 Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1 Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101 Interactive Data Files providing financial information from the Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2013 in XBRL (eXtensible Business Reporting Language). Pursuant to Regulation 406T of Regulation S-T, these Interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, and are otherwise not subject to liability.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Form 10-Q Signatures

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

	SOUTHEASTERN BANK FINANCIAL CORPORATION



Date: July 26, 2013	By:	/s/ Darrell R. Rains
		Darrell R. Rains
		Group Vice President, Chief
		Financial Officer (Duly Authorized Officer of Registrant and Principal Financial Officer)

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Southeastern Bank Financial (SBFC) Inactive 10-Q2013 Q2 Quarterly report

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