10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

xANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

- For the fiscal year ended December 31, 2009

Commission File Number:  000-26995

HCSB FINANCIAL CORPORATION

(Name of small business Issuer in its charter)

South Carolina (State or other jurisdiction of incorporation or organization)	57-1079444 (I.R.S. Employer Identification No.)
5201 Broad Street Loris, South Carolina (Address of principal executive offices)	29569 (Zip Code)

Issuer’s telephone number: (843) 756-6333

Securities registered under Section 12(b) of the Exchange Act: None

Securities registered under Section 12(g) of the Exchange Act: Common Stock

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o  No x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o  No x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 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 (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statement incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

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

Large accelerated filer o	Accelerated filer o
Non-accelerated filer o	Smaller reporting company x
(Do not check if a smaller reporting company)

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

The estimated aggregate market value of the Common Stock held by non-affiliates (shareholders holding less than 5% of an outstanding class of stock, excluding directors and executive officers) of the Company on June 30, 2009 was $65,826,720.  This calculation is based upon an estimate of the fair market value of the Common Stock of $20.00 per share, which was the price of the last several trades of which management is aware prior to this date. Because there is not an active trading market for the Common Stock, we have used our book value of $12.41 as of June 30, 2009 to calculate our public float.

The number of shares outstanding of the issuer’s common stock, as of March 1, 2010 was 3,787,170.

DOCUMENTS INCORPORATED BY REFERENCE

Annual Report to Shareholders for the Year Ended December 31, 2009	Part II (Items 5, 7-8)
Proxy Statement for the Annual Meeting of Shareholders to be held on April 22, 2010	Part III (Portions of Items 10-14)

PART I

Item 1.  Description of Business.

This Report, including information included or incorporated by reference in this document, contains statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.   Forward-looking statements may relate to our financial condition, results of operation, plans, objectives, or future performance.  These statements are based on many assumptions and estimates and are not guarantees of future performance.  Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control.  The words “may,”  “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “believe,” “continue,” “assume,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements.  Potential risks and uncertainties that could cause our actual results to differ from those anticipated in any forward-looking statements include, but are not limited to, those described below under Item 1A- Risk Factors and the following:

·reduced earnings due to higher credit losses generally and specifically because losses in the sectors of our loan portfolio secured by real estate are greater than expected due to economic factors, including, but not limited to, declining real estate values, increasing interest rates, increasing unemployment, or changes in payment behavior or other factors;

·reduced earnings due to higher credit losses because our loans are concentrated by loan type, industry segment, borrower type, or location of the borrower or collateral;

·the high concentration of our real estate-based loans collateralized by real estate in a weak commercial real estate market;

·significant increases in competitive pressure in the banking and financial services industries;

·changes in the interest rate environment which could reduce anticipated margins;

·changes in political conditions or the legislative or regulatory environment;

·general economic conditions, either nationally or regionally and especially in our primary service area, being less favorable than expected, resulting in, among other things, a deterioration in credit quality;

·changes occurring in business conditions and inflation;

·changes in deposit flows;

·changes in technology;

·changes in monetary and tax policies;

·adequacy of the level of our allowance for loan losses;

·the rate of delinquencies and amount of loans charged-off;

·the rate of loan growth and the lack of seasoning of our loan portfolio;

·adverse changes in asset quality and resulting credit risk-related losses and expenses;

·loss of consumer confidence and economic disruptions resulting from terrorist activities;

·changes in the securities markets; and

·other risks and uncertainties detailed from time to time in our filings with the Securities and Exchange Commission.

These risks are exacerbated by the developments over the past two years in national and international financial markets, and we are unable to predict what effect these uncertain market conditions will have on our Company.  During 2008 and 2009, the capital and credit markets experienced unprecedented levels of extended volatility and disruption. There can be no assurance that these unprecedented recent developments will not materially and adversely affect our business, financial condition and results of operations.

All forward-looking statements in this report are based on information available to us as of the date of this report.  Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations will be achieved.  We undertake no

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obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

General Overview

HCSB Financial Corporation was incorporated on June 10, 1999 to become a holding company for Horry County State Bank.  The bank is a state chartered bank which commenced operations on January 4, 1988.  Our primary market includes Horry County in South Carolina and Columbus and Brunswick Counties in North Carolina.  From our 14 branch locations, we offer a full range of deposit services, including checking accounts, savings accounts, certificates of deposit, money market accounts, and IRAs, as well as a broad range of non-deposit investment services.

On March 6, 2009, as part of the Capital Purchase Program established by the U.S. Department of the Treasury (“Treasury”) under the Emergency Economic Stabilization Act of 2008 (the “EESA”), we entered into a Letter Agreement with Treasury pursuant to which we issued and sold to Treasury (i) 12,895 shares of our Fixed Rate Cumulative Perpetual Preferred Stock, Series T, having a liquidation preference of $1,000 per share (the “Series T Preferred Stock”), and (ii) a ten-year warrant to purchase up to 91,714 shares of our common stock at an initial exercise price of $21.09 per share, for an aggregate purchase price of $12,895,000 in cash. The Series T Preferred Stock qualifies as Tier 1 capital and is entitled to cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter.  We must consult with the Board of Governors of the Federal Reserve System before we are able to redeem the Series T Preferred Stock but we may not necessarily be required to raise additional equity capital in order to redeem this stock.

Operating and Growth Strategy

Our goal is to be the leading community bank in our market area.  We intend to achieve this goal chiefly by providing personalized service to our customers.  Other strategies that we use to support our goal are hiring, developing, and retaining high caliber and motivated employees, focusing each of our branches on the unique needs and cultures of the community in which it is located, maintaining high asset quality, increasing asset size through internal growth and branch expansion, and offering our customers a breadth of products competitive with those offered by much larger institutions.  These goals are intended to build long-term shareholder value.

·Personalized Service.  We view banking as a service industry in which personal relationships can provide a competitive advantage.  This paradigm is captured in our marketing tagline “Bank With Me! at HCSB!”.  It speaks directly to the relationship between our customers and our employees and reminds our employees that their actions and attitudes make the difference for our bank.  It reminds our employees that people bank with HCSB because of what our employees do each day to make our customers feel appreciated.  We seek customers who prefer to conduct business with a locally owned and managed bank that demonstrates an active interest in their business and personal financial affairs.  We believe that by consistently providing high levels of service to customers who value that service, we develop and strengthen relationships that provide a competitive advantage.

·Motivated Employees.  We believe that the key to our success lies with our employees, because it is through our employees that we are able to provide our customers with the high level of service and attention that they expect and deserve.  To this end, we hire people who are familiar with their community and are committed to providing a superior level of banking service to our customers.  By selecting only knowledgeable and committed employees, we believe we can provide an unsurpassed level of customer service and satisfaction.  We strive to develop, sustain the motivation of, and retain our employees through training, personal attention, recognition, and competitive compensation.  We encourage and equip each employee to focus on the individual needs of our customers and to deliver the specific products and services that will best help these customers achieve their financial goals.

·Community Focus.  We approach banking with a community focus, particularly at the branch level.  We operate each branch as an independent business unit and encourage our branch

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managers to promote those products that best meet the needs of their customer base.  This strategy enables our branches to serve diverse populations and economies effectively.  We support our branches by supporting the economic development of our communities and by encouraging our employees to be active in community affairs.  We have located our existing offices, and expect to locate future offices, in communities in which we believe we can develop strong relationships.  We favor growth areas and areas in which there are opportunities to differentiate ourselves by providing customers with superior service.

·High Asset Quality.  We place a great deal of emphasis on maintaining high asset quality and will continue to strive to maintain high asset quality through the closeness of our lenders, senior officers, and directors to our customers and their significant knowledge of the communities in which they reside.

·Internal Growth, Branch Expansion.  We have grown significantly over the last six years.  We will continue to focus on acquiring market share, particularly from large Southeastern regional bank holding companies, by emphasizing our local management and decision-making and personal services.

·Broad Range of Products and Services.  We strive to provide our customers with the breadth of products and services comparable to a regional bank, while maintaining the quick response and personal service of a locally owned and managed bank.  In addition to offering a full range of deposit services and commercial, agricultural and personal loans, we offer products such as mortgage loan originations, on-line banking, and investment products and brokerage services through a third party arrangement.

Location and Service Area

Our primary markets include Horry County, South Carolina and Columbus and Brunswick Counties, North Carolina.  Many of the banks in these areas are branches of large regional banks.  Although size gives the larger banks certain advantages in competing for business from large corporations, including higher lending limits and the ability to offer services in other areas of South Carolina and North Carolina, we believe that there is a void in the community banking market in our market that we successfully fill.  We also believe that the Horry County market will continue to grow, particularly along the Atlantic coast.  We intend to continue to expand our branch network to take advantage of opportunities caused by this growth.  We generally do not attempt to compete for the banking relationships of large corporations, but concentrate our efforts on small- to medium-sized businesses, individuals, and farmers.

Banking Services

We offer a full range of deposit services that are typically available in most banks and savings and loan associations, including checking accounts, NOW accounts, savings accounts, and time deposits of various types, ranging from daily money market accounts to longer-term certificates of deposit.  The transaction accounts and time certificates are tailored to our principal market area at rates competitive to those offered in our market area.  In addition, we offer certain retirement account services, such as Individual Retirement Accounts.  All deposit accounts are insured by the FDIC up to the maximum amount allowed by law (generally, $250,000 per depositor, subject to aggregation rules).  We solicit these accounts from individuals, businesses, associations and organizations, and governmental authorities.

Lending Activities

General.  We emphasize a range of lending services, including real estate, commercial, agricultural and consumer loans, to individuals and small to medium-sized businesses and professional concerns that are located in or conduct a substantial portion of their business in our market area. The characteristics of our loan portfolio and our underwriting procedures, collateral types, risks, approval process and lending limits are discussed below.

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Real Estate Loans. The primary component of our loan portfolio is loans collateralized by real estate, which made up approximately 62.3% of our loan portfolio at December 31, 2009.  These loans are secured generally by first or second mortgages on residential, agricultural or commercial property.  These loans consist of commercial real estate loans, construction and development loans, and residential real estate loans (but exclude home equity loans, which are classified as consumer loans).  Due to concerns regarding the current economic environment and our concentration of commercial real estate loans, which as of December 31, 2009 totaled $251,617,000, or 62.44% of our real estate loans, we anticipate decreasing our amount of commercial real estate loans in 2010.

Commercial Loans.  At December 31, 2009, approximately 12.3% of our loan portfolio consisted of commercial loans.  Commercial loans consist of secured and unsecured loans, lines of credit, and working capital loans.  We make these loans to various types of businesses.  Included in this category are loans to purchase equipment, finance accounts receivable or inventory, and loans made for working capital purposes.

Consumer Loans.  Consumer loans made up approximately 3.2% of our loan portfolio at December 31, 2009.  These are loans made to individuals for personal and household purposes, such as secured and unsecured installment and term loans, home equity loans and lines of credit, and revolving lines of credit such as overdraft protection.  Automobiles and small recreational vehicles are pledged as security for their purchase.

Agricultural Loans.  Approximately 2.1% of our loan portfolio consisted of agricultural loans at December 31, 2009.  These are loans made to individuals and businesses for agricultural purposes, including loans to finance crop production and livestock operating expenses, to purchase farm equipment, and to store crops.  These loans are secured generally by liens on growing crops and farm equipment.  Also included in this category are loans to agri-businesses, which are substantially similar to commercial loans, as discussed above.

Construction and Development Loans.  The remaining 19.4% of our loan portfolio at December 31, 2009 was composed of consumer and commercial real estate construction and commercial development loans.  These loans are secured by the real estate for which construction is planned and, in many cases, by supplementary collateral.

Underwriting Procedures, Collateral, and Risk.  We use our established credit policies and procedures when underwriting each type of loan.  Although there are minor variances in the characteristics and criteria for each loan type, which may require additional underwriting procedures, we generally evaluate borrowers using the following defined criteria:

·Character – we evaluate whether the borrower has sound character and integrity by examining the borrower’s history.

·Capital – we evaluate the borrower’s overall financial strength, as well as the equity investment in the asset being financed.

·Collateral – we evaluate whether the collateral is adequate from the standpoint of quality, marketability, value and income potential.

·Capacity – we evaluate the borrower’s ability to service the debt.

·Conditions – we underwrite the credit in light of the effects of external factors, such as economic conditions and industry trends.

It is our practice to obtain collateral for most loans to help mitigate the risk associated with lending.  We generally limit our loan-to-value ratio to 80%.  For example, we obtain a security interest in real estate for loans secured by real estate, including construction and development loans, and other commercial loans.  For commercial loans, we typically obtain security interests in equipment and other company assets.  For agricultural loans, we typically obtain a security interest in growing crops, farm equipment, or real estate.  For consumer loans used to purchase vehicles, we obtain appropriate title documentation.  For secured loans that are not associated with real estate, or for which the mortgaged real estate does not provide an acceptable loan-to-value ratio, we typically obtain other available collateral such as stocks or savings accounts.

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Every loan carries a credit risk, simply defined as the potential that the borrower will not be willing or able to repay the debt.  While this risk is common to all loan types, each type of loan may carry risks that distinguish it from other loan types.  The following paragraphs discuss certain risks that are associated with each of our loan types.

Each real estate loan is sensitive to fluctuations in the value of the real estate that secures that loan.  Certain types of real estate loans have specific risk characteristics that vary according to the type of collateral that secures the loan, the terms of the loan, and the repayment sources for the loan.  Construction and development real estate loans generally carry a higher degree of risk than long term financing of existing properties.  These projects are usually dependent on the completion of the project on schedule and within cost estimates and on the timely sale of the property.  Inferior or improper construction techniques, changes in economic conditions during the construction and marketing period, and rising interest rates which may slow the sale of the property are all risks unique to this type of loan.  Residential mortgage loans, in contrast to commercial real estate loans, generally have longer terms and may have fixed or adjustable interest rates.

Commercial loans primarily have risk that the primary source of repayment will be insufficient to service the debt.  Often this occurs as the result of changes in economic conditions in the location or industry in which the borrower operates which impact cash flow or collateral value.  Consumer loans, other than home equity loan products, are generally considered to have more risk than loans to individuals secured by first or second mortgages on real estate due to dependence on the borrower’s employment status as the sole source of repayment.  Agricultural loans carry the risk of crop failure, which adversely impacts both the borrower’s ability to repay the loan and the value of the collateral.

By following defined underwriting criteria as noted above, we can help to reduce these risks.  Additionally we help to reduce the risk that the underlying collateral may not be sufficient to pay the outstanding balance by using appraisals or taking other steps to determine that the value of the collateral is adequate, and lending amounts based upon lower loan-to-value ratios.  We also control risks by reducing concentration of our loan portfolio in any one type of loan.

Loan Approval and Review.  Our loan approval policies provide for various levels of officer lending authority.  When the amount of aggregate loans to a single borrower exceeds that individual officer’s lending authority, the loan request is considered by an officer with a higher lending limit.  Any loan in excess of this lending limit is approved by the directors’ loan committee.  We do not make any loans to any of our directors or executive officers unless the loan is approved by a three-fourth’s vote of the board of directors of the bank and is made on terms not more favorable to such person than would be available to a person not affiliated with us.  Aggregate credit in excess of 10% of the bank’s aggregate capital, surplus, retained earnings, and reserve for loan losses must be approved by a three-fourth’s vote of our bank’s board of directors.

Residential Mortgage Loans.  We offer a variety of residential mortgage lending products, including loans with fixed rates for fifteen and thirty years as well as adjustable rate mortgages (ARMs).  Typically, we close these loans with funds provided by a secondary market investor, although we may close them in the Bank’s name under a pre-approved commitment to sell the loans to an investor within a few weeks from the date the loan is closed.

Lending Limits.  Our lending activities are subject to a variety of lending limits imposed by federal law.  While differing limits apply to certain loan types or borrowers, in general we are subject to a loan-to-one-borrower limit.  These limits increase or decrease as our capital increases or decreases.  Unless we sell participations in loans to other financial institutions, we are not able to meet all of the lending needs of loan customers requiring aggregate extensions of credit above these limits.

Other Banking and Related Services

Other bank services which are in place or planned include cash management services, sweep accounts, repurchase agreements, cellular phone banking, remote deposit capture, safe deposit boxes,

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travelers checks, direct deposit of payroll and social security checks, on-line banking and automatic drafts for various accounts.  We are associated with a shared network of automated teller machines that may be used by our customers throughout South Carolina and other regions.  Three of our non-executive officers are registered representatives of Nexity Financial Services, and they effect transactions in securities and other non-deposit investment products.  We also offer MasterCard and VISA credit card services through a third party vendor.  We continue to seek and evaluate opportunities to offer additional financial services to our customers.

Competition

The banking business is highly competitive.  We compete with other commercial banks, savings and loan associations, credit unions, and money market mutual funds operating in our service area and elsewhere.  According to the FDIC data as of June 30, 2009, there were 27 financial institutions operating in Horry County, 13 financial institutions operating in Brunswick County and 7 financial institutions operating in Columbus County.  We believe that our community bank focus, with our emphasis on service to small businesses, individuals, farmers and professional concerns, gives us an advantage in our markets.  Nevertheless, a number of these competitors are well established in our service area.  Many of them have substantially greater resources and lending limits than the bank and offer certain services, such as extensive and established branch networks and trust services, that we do not provide.  As a result of these competitive factors, we may have to pay higher rates of interest to attract deposits.

Employees

As of March 15, 2010, we had 157 full-time employees and 1 part-time employee.  We are not a party to a collective bargaining agreement, and we consider our relations with our employees to be good.

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SUPERVISION AND REGULATION

Both HCSB Financial Corporation and Horry County State Bank are subject to extensive state and federal banking laws and regulations that impose specific requirements and restrictions on and provide for general regulatory oversight of their operations.  These laws and regulations generally are intended to protect depositors and not shareholders.  The following summary is qualified by reference to the statutory and regulatory provisions discussed.  Changes in applicable laws or regulations may have a material effect on our business and prospects.  Our operations may be affected by legislative changes and the policies of various regulatory authorities.  We cannot predict the effect that fiscal or monetary policies, economic control, or new federal or state legislation may have on our business and earnings in the future.

The following discussion is not intended to be a complete list of all the activities regulated by the banking laws or of the impact of such laws and regulations on our operations.  It is intended only to briefly summarize some material provisions.

Recent Legislative and Regulatory Developments

The Congress, Treasury and the federal banking regulators, including the FDIC, have taken broad actions since early September 2008 to address the volatility and disruption in the U.S. banking system.  Several regulatory and governmental actions have been announced including:

·In October 2008, the Emergency Economic Stabilization Act of 2008 (“EESA”) was enacted. The EESA authorizes Treasury to purchase from financial institutions and their holding companies up to $700 billion in mortgage loans, mortgage-related securities and certain other financial instruments, including debt and equity securities issued by financial institutions and their holding companies in a troubled asset relief program (“TARP”).  The purpose of TARP is to restore confidence and stability to the U.S. banking system and to encourage financial institutions to increase their lending to customers and to each other.  The Treasury has allocated $250 billion towards the TARP Capital Purchase Program (“CPP”).  Under the CPP, Treasury purchased debt or equity securities from participating institutions.  TARP also includes direct purchases or guarantees of troubled assets of financial institutions. Participants in the CPP are subject to executive compensation limits and are encouraged to expand their lending and mortgage loan modifications.

·On March 6, 2009, as part of the CPP established by Treasury under the EESA, we entered into a Letter Agreement and Securities Purchase Agreement with Treasury pursuant to which we issued and sold to Treasury (i) 12,895 shares of our Fixed Rate Cumulative Perpetual Preferred Stock, Series T, having a liquidation preference of $1,000 per share (the “Series T Preferred Stock”), and (ii) a ten-year warrant to purchase up to 91,714 shares of our common stock at an initial exercise price of $21.09 per share, for an aggregate purchase price of $12,895,000 in cash. The Series T Preferred Stock qualifies as Tier 1 capital and is entitled to cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter, but will be paid only if, as, and when declared by our board of directors.  The Series T Preferred Stock has no maturity date and ranks senior to the common stock with respect to the payment of dividends and distributions and amounts payable upon liquidation, dissolution and winding up of the company. The Series T Preferred Stock generally is non-voting.

Pursuant to the terms of the certificate of designations creating the Series T Preferred Stock, we may only redeem the Series T Preferred Stock at par after May 15, 2012. Prior to this date, we may redeem the Series T Preferred Stock at par if (i) we have raised aggregate gross proceeds in one or more Qualified Equity Offerings (as defined in the Purchase Agreement) in excess of approximately $3.2 million, and (ii) the aggregate redemption price does not exceed the aggregate net proceeds from such Qualified Equity Offerings. Any redemption is subject to the consent of the Board of Governors of the Federal Reserve System.  However, pursuant to the terms of American Recovery and

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Reinvestment Act (the “Recovery Act”) which modified EESA, we may, upon consultation with our primary federal regulator, repay the amount received for the Series T Preferred Stock at any time, without regard to whether we have replaced such funds from any source or to any waiting period. Upon repayment of the amount received for the Series T Preferred Stock, the Treasury Department will also liquidate the associated Warrant in accordance with the Recovery Act and any rules and regulations thereunder.

·EESA also increased FDIC deposit insurance on most accounts from $100,000 to $250,000.  This increase is in place until the end of 2013 and is not covered by deposit insurance premiums paid by the banking industry.

·On October 14, 2008, the FDIC established the Temporary Liquidity Guarantee Program (“TLGP”).  TLGP includes the Transaction Account Guarantee Program (“TAGP”), which provides unlimited deposit insurance coverage through June 30, 2010 for noninterest-bearing transaction accounts (typically business checking accounts) and certain funds swept into noninterest-bearing savings accounts.  Institutions participating in TLGP pay a 10 basis points fee (annualized) on the balance of each covered account in excess of $250,000, while the extra deposit insurance is in place.  TLGP also includes the Debt Guarantee Program (“DGP”), under which the FDIC guarantees certain newly-issued senior unsecured debt.  The guarantee applied to new debt issued on or before October 31, 2009 and provides protection until December 31, 2012.  Participants in DGP pay a 75 basis point fee for the guarantee.  TAGP and DGP are in effect for all eligible entities, unless the entity opted out on or before December 5, 2008.  We are participating in the TAGP and opted out of the DGP.

·On February 10, 2009, Treasury announced the Financial Stability Plan, which earmarked $350 billion of the TARP funds authorized under EESA. Among other things, the Financial Stability Plan includes:

·A capital assistance program that invested in mandatory convertible preferred stock of certain qualifying institutions determined on a basis and through a process similar to the CPP;

·A consumer and business lending initiative to fund new consumer loans, small business loans and commercial mortgage asset-backed securities issuances;

·A public-private investment fund program that is intended to leverage public and private capital with public financing to purchase up to $500 billion to $1 trillion of legacy “toxic assets” from financial institutions; and

·Assistance for homeowners by providing up to $75 billion to reduce mortgage payments and interest rates and establishing loan modification guidelines for government and private programs.

·On February 17, 2009, the Recovery Act was signed into law in an effort to, among other things, create jobs and stimulate growth in the United States economy.  The Recovery Act specifies appropriations of approximately $787 billion for a wide range of Federal programs and will increase or extend certain benefits payable under the Medicaid, unemployment compensation, and nutrition assistance programs.  The Recovery Act also reduces individual and corporate income tax collections and makes a variety of other changes to tax laws.  The Recovery Act also imposes certain limitations on compensation paid by participants in TARP.

·On March 23, 2009, Treasury, in conjunction with the FDIC and the Federal Reserve, announced the Public-Private Partnership Investment Program for Legacy Assets which consists of two separate plans, addressing two distinct asset groups:

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·The first plan is the Legacy Loan Program, which has a primary purpose to facilitate the sale of troubled mortgage loans by eligible institutions, including FDIC-insured federal or state banks and savings associations. Eligible assets are not strictly limited to loans; however, what constitutes an eligible asset will be determined by participating banks, their primary regulators, the FDIC and the Treasury. Under the Legacy Loan Program, the FDIC has sold certain troubled assets out of an FDIC receivership in two separate transactions relating to the failed Illinois bank, Corus Bank, NA, and the failed Texas bank, Franklin Bank, S.S.B. These transactions were completed in September 2009 and October 2009, respectively.

·The second plan is the Securities Program, which is administered by the Treasury and involves the creation of public-private investment funds to target investments in eligible residential mortgage-backed securities and commercial mortgage-backed securities issued before 2009 that originally were rated AAA or the equivalent by two or more nationally recognized statistical rating organizations, without regard to rating enhancements (collectively, “Legacy Securities”). Legacy Securities must be directly secured by actual mortgage loans, leases or other assets, and may be purchased only from financial institutions that meet TARP eligibility requirements. Treasury received over 100 unique applications to participate in the Legacy Securities PPIP and in July 2009 selected nine public-private investment fund managers.  As of December 31, 2009, public-private investment funds have completed initial and subsequent closings on approximately $6.2 billion of private sector equity capital, which was matched 100% by Treasury, representing $12.4 billion of total equity capital. Treasury has also provided $12.4 billion of debt capital, representing $24.8 billion of total purchasing power. As of December 31, 2009, public-private investment funds have drawn-down approximately $4.3 billion of total capital which has been invested in certain non-agency residential mortgage backed securities and commercial mortgage backed securities and cash equivalents pending investment.

·On May 22, 2009, the FDIC levied a one-time special assessment on all banks due on September 30, 2009.

·On November 12, 2009, the FDIC issued a final rule to require banks to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012 and to increase assessment rates effective on January 1, 2011.

As a result of the enhancements to deposit insurance protection and the expectation that there will be demands on the FDIC’s deposit insurance fund, our deposit insurance costs increased significantly in 2009.  Regardless of our lack of participation, governmental intervention and new regulations under these programs could materially and adversely affect our business, financial condition and results of operation.

Although it is likely that further regulatory actions will arise as the Federal government attempts to address the economic situation, we cannot predict the effect that fiscal or monetary policies, economic control, or new federal or state legislation may have on our business and earnings in the future.

HCSB Financial Corporation

We own 100% of the outstanding capital stock of the bank, and therefore we are considered to be a bank holding company under the federal Bank Holding Company Act of 1956 (the “Bank Holding Company Act”).  As a result, we are primarily subject to the supervision, examination and reporting requirements of the Board of Governors of the Federal Reserve (the “Federal Reserve”) under the Bank

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Holding Company Act and its regulations promulgated thereunder.  As a bank holding company located in South Carolina, the South Carolina Board of Financial Institutions also regulates and monitors all significant aspects of our operations.

Permitted Activities. Under the Bank Holding Company Act, a bank holding company is generally permitted to engage in, or acquire direct or indirect control of more than 5% of the voting shares of any company engaged in, the following activities:

·banking or managing or controlling banks;

·furnishing services to or performing services for our subsidiaries; and

·any activity that the Federal Reserve determines to be so closely related to banking as to be a proper incident to the business of banking.

Activities that the Federal Reserve has found to be so closely related to banking as to be a proper incident to the business of banking include:

·factoring accounts receivable;

·making, acquiring, brokering or servicing loans and usual related activities;

·leasing personal or real property;

·operating a non-bank depository institution, such as a savings association;

·trust company functions;

·financial and investment advisory activities;

·conducting discount securities brokerage activities;

·underwriting and dealing in government obligations and money market instruments;

·providing specified management consulting and counseling activities;

·performing selected data processing services and support services;

·acting as agent or broker in selling credit life insurance and other types of insurance in connection with credit transactions; and

·performing selected insurance underwriting activities.

As a bank holding company we also can elect to be treated as a “financial holding company,” which would allow us to engage in a broader array of activities.  In sum, a financial holding company can engage in activities that are financial in nature or incidental or complementary to financial activities, including insurance underwriting, sales and brokerage activities, providing financial and investment advisory services, underwriting services and limited merchant banking activities.  We have not sought financial holding company status, but may elect such status in the future as our business matures.  If we were to elect in writing for financial holding company status, each insured depository institution we control would have to be well capitalized, well managed and have at least a satisfactory rating under the Community Reinvestment Act (CRA) (discussed below).

The Federal Reserve has the authority to order a bank holding company or its subsidiaries to terminate any of these activities or to terminate its ownership or control of any subsidiary when it has reasonable cause to believe that the bank holding company’s continued ownership, activity or control constitutes a serious risk to the financial safety, soundness or stability of it or any of its bank subsidiaries.

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Change in Control.  In addition, and subject to certain exceptions, the Bank Holding Company Act and the Change in Bank Control Act, together with regulations promulgated thereunder, require Federal Reserve approval prior to any person or company acquiring “control” of a bank holding company.  Control is conclusively presumed to exist if an individual or company acquires 25% or more of any class of voting securities of a bank holding company.  Following the relaxing of these restrictions by the Federal Reserve in September 2008, control will now be rebuttably presumed to exist unless a person acquires no more than 33% of the total equity of a bank or bank holding company, of which it may own, control or have the power to vote not more than 15% of any class of voting securities.

Source of Strength.  In accordance with Federal Reserve Board policy, we are expected to act as a source of financial strength to the bank and to commit resources to support the bank in circumstances in which we might not otherwise do so.  If the bank were to become “undercapitalized” (see below “Horry County State Bank — Prompt Corrective Action”), we would be required to provide a guarantee of the bank’s plan to return to capital adequacy.  Additionally, under the bank Holding Company Act, the Federal Reserve Board may require a bank holding company to terminate any activity or relinquish control of a nonbank subsidiary, other than a nonbank subsidiary of a bank, upon the Federal Reserve Board’s determination that such activity or control constitutes a serious risk to the financial soundness or stability of any depository institution subsidiary of the bank holding company.  Further, federal bank regulatory authorities have additional discretion to require a bank holding company to divest itself of any bank or nonbank subsidiaries if the agency determines that divestiture may aid the depository institution’s financial condition.  Further, any loans by a bank holding company to a subsidiary bank are subordinate in right of payment to deposits and certain other indebtedness of the subsidiary bank.  In the event of a bank holding company’s bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank at a certain level would be assumed by the bankruptcy trustee and entitled to priority payment.

Capital Requirements.  The Federal Reserve Board imposes certain capital requirements on the bank holding company under the Bank Holding Company Act, including a minimum leverage ratio and a minimum ratio of “qualifying” capital to risk-weighted assets.  These requirements are essentially the same as those that apply to the bank described below under “Horry County State Bank - Capital Regulations.”  Nevertheless, our bank remains subject to these capital requirements.  Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the bank’s financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the bank must meet specific capital guidelines that involve quantitative measures of the bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.  The bank’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.  Regardless, our bank is “well capitalized” under these minimum capital requirements as set per bank regulatory agencies.

Subject to our capital requirements and certain other restrictions, we are able to borrow money to make a capital contribution to the bank, and these loans may be repaid from dividends paid from the bank to the Company.  Our ability to pay dividends depends on the bank’s ability to pay dividends to us, which is subject to regulatory restrictions as described below in “Horry County State Bank — Dividends.”  We are also able to raise capital for contribution to the bank by issuing securities without having to receive regulatory approval, subject to compliance with federal and state securities laws.

South Carolina State Regulation.  As a South Carolina bank holding company under the South Carolina Banking and Branching Efficiency Act, we are subject to limitations on sale or merger and to regulation by the South Carolina Board of Financial Institutions.  We are not required to obtain the approval of the South Carolina Board prior to acquiring the capital stock of a national bank, but we must notify them at least 15 days prior to doing so.  We must receive the Board’s approval prior to engaging in the acquisition of a South Carolina state chartered bank or another South Carolina bank holding company.

Horry County State Bank

The bank operates as a state bank incorporated under the laws of the State of South Carolina and is subject to examination by the South Carolina Board of Financial Institutions.  Deposits in the bank are

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insured by the Federal Deposit Insurance Corporation (“FDIC”) up to a maximum amount, which is currently $250,000 for each non-retirement depositor and $250,000 for certain retirement-account depositors through December 31, 2013, and the bank is participating in the FDIC’s Temporary Liquidity Guarantee Program (discussed below in greater detail) which, in part, fully insures non-interest bearing transaction accounts.

The South Carolina Board of Financial Institutions and the FDIC regulate or monitor virtually all areas of the bank’s operations, including:

·security devices and procedures;

·adequacy of capitalization and loss reserves;

·loans;

·investments;

·borrowings;

·deposits;

·mergers;

·issuances of securities;

·payment of dividends;

·interest rates payable on deposits;

·interest rates or fees chargeable on loans;

·establishment of branches;

·corporate reorganizations;

·maintenance of books and records; and

·adequacy of staff training to carry on safe lending and deposit gathering practices.

The South Carolina Board of Financial Institutions requires the bank to maintain specified capital ratios and imposes limitations on the bank’s aggregate investment in real estate, bank premises, and furniture and fixtures.  The South Carolina Board of Financial Institutions also requires the bank to prepare quarterly reports on the bank’s financial condition in compliance with its minimum standards and procedures.

All insured institutions must undergo regular on site examinations by their appropriate banking agency.  The cost of examinations of insured depository institutions and any affiliates may be assessed by the appropriate agency against each institution or affiliate as it deems necessary or appropriate.  Insured institutions are required to submit annual reports to the FDIC, their federal regulatory agency, and their state supervisor when applicable.  The FDIC has developed a method for insured depository institutions to provide supplemental disclosure of the estimated fair market value of assets and liabilities, to the extent feasible and practicable, in any balance sheet, financial statement, report of condition or any other report of any insured depository institution.  The FDIC Improvement Act also requires the federal banking regulatory agencies to prescribe, by regulation, standards for all insured depository institutions and depository institution holding companies relating, among other things, to the following:

·internal controls;

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·information systems and audit systems;

·loan documentation;

·credit underwriting;

·interest rate risk exposure; and

·asset quality.

Prompt Corrective Action.  As an insured depository institution, the bank is required to comply with the capital requirements promulgated under the Federal Deposit Insurance Act and the regulations thereunder, which set forth five capital categories, each with specific regulatory consequences.  Under these regulations, the categories are:

·Well Capitalized — The institution exceeds the required minimum level for each relevant capital measure.  A well capitalized institution is one (i) having a total capital ratio of 10% or greater, (ii) having a tier 1 capital ratio of 6% or greater, (iii) having a leverage capital ratio of 5% or greater and (iv) that is not subject to any order or written directive to meet and maintain a specific capital level for any capital measure.

·Adequately Capitalized — The institution meets the required minimum level for each relevant capital measure.  No capital distribution may be made that would result in the institution becoming undercapitalized.  An adequately capitalized institution is one (i) having a total capital ratio of 8% or greater, (ii) having a tier 1 capital ratio of 4% or greater and (iii) having a leverage capital ratio of 4% or greater or a leverage capital ratio of 3% or greater if the institution is rated composite 1 under the CAMELS (Capital, Assets, Management, Earnings, Liquidity and Sensitivity to market risk) rating system.

·Undercapitalized — The institution fails to meet the required minimum level for any relevant capital measure.  An undercapitalized institution is one (i) having a total capital ratio of less than 8% or (ii) having a tier 1 capital ratio of less than 4% or (iii) having a leverage capital ratio of less than 4%, or if the institution is rated a composite 1 under the CAMELS rating system, a leverage capital ratio of less than 3%.

·Significantly Undercapitalized — The institution is significantly below the required minimum level for any relevant capital measure.  A significantly undercapitalized institution is one (i) having a total capital ratio of less than 6% or (ii) having a tier 1 capital ratio of less than 3% or (iii) having a leverage capital ratio of less than 3%.

·Critically Undercapitalized — The institution fails to meet a critical capital level set by the appropriate federal banking agency.  A critically undercapitalized institution is one having a ratio of tangible equity to total assets that is equal to or less than 2%.

If the FDIC determines, after notice and an opportunity for hearing, that the bank is in an unsafe or unsound condition, the regulator is authorized to reclassify the bank to the next lower capital category (other than critically undercapitalized) and require the submission of a plan to correct the unsafe or unsound condition.

If the bank is not well capitalized, it cannot accept brokered deposits without prior FDIC approval and, if approval is granted, cannot offer an effective yield in excess of 75 basis points on interest rates paid on deposits of comparable size and maturity in such institution’s normal market area for deposits accepted from within its normal market area, or national rate paid on deposits of comparable size and maturity for deposits accepted outside the bank’s normal market area.  Moreover, if the bank becomes less than adequately capitalized, it must adopt a capital restoration plan acceptable to the FDIC.  The bank also would become subject to increased regulatory oversight, and is increasingly restricted in the scope of its

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permissible activities.  Each company having control over an undercapitalized institution also must provide a limited guarantee that the institution will comply with its capital restoration plan.  Except under limited circumstances consistent with an accepted capital restoration plan, an undercapitalized institution may not grow.  An undercapitalized institution may not acquire another institution, establish additional branch offices or engage in any new line of business unless determined by the appropriate Federal banking agency to be consistent with an accepted capital restoration plan, or unless the FDIC determines that the proposed action will further the purpose of prompt corrective action.  The appropriate federal banking agency may take any action authorized for a significantly undercapitalized institution if an undercapitalized institution fails to submit an acceptable capital restoration plan or fails in any material respect to implement a plan accepted by the agency.  A critically undercapitalized institution is subject to having a receiver or conservator appointed to manage its affairs and for loss of its charter to conduct banking activities.

An insured depository institution may not pay a management fee to a bank holding company controlling that institution or any other person having control of the institution if, after making the payment, the institution, would be undercapitalized.  In addition, an institution cannot make a capital distribution, such as a dividend or other distribution that is in substance a distribution of capital to the owners of the institution if following such a distribution the institution would be undercapitalized.  Thus, if payment of such a management fee or the making of such would cause the bank to become undercapitalized, it could not pay a management fee or dividend to us.

As of December 31, 2009, the bank was deemed to be “well capitalized.”

Standards for Safety and Soundness.   The Federal Deposit Insurance Act (“FDIA”) also requires the federal banking regulatory agencies to prescribe, by regulation or guideline, operational and managerial standards for all insured depository institutions relating to: (i) internal controls, information systems, and internal audit systems; (ii) loan documentation; (iii) credit underwriting; (iv) interest rate risk exposure; and (v) asset growth.  The agencies also must prescribe standards for asset quality, earnings, and stock valuation, as well as standards for compensation, fees, and benefits.  The federal banking agencies have adopted regulations and Interagency Guidelines Prescribing Standards for Safety and Soundness to implement these required standards.  These guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes impaired.  Under the regulations, if the FDIC determines that the bank fails to meet any standards prescribed by the guidelines, the agency may require the bank to submit to the agency an acceptable plan to achieve compliance with the standard, as required by the FDIC.  The final regulations establish deadlines for the submission and review of such safety and soundness compliance plans.

Transactions with Affiliates and Insiders.  The company is a legal entity separate and distinct from the bank and its other subsidiaries.  Various legal limitations restrict the bank from lending or otherwise supplying funds to the company or its non-bank subsidiaries.  The company and the bank are subject to Section 23A and 23B of the Federal Reserve Act and Federal Reserve Regulation W.  Section 23A of the Federal Reserve Act places limits on the amount of loans or extensions of credit to, or investments in, or certain other transactions with, affiliates and on the amount of advances to third parties collateralized by the securities or obligations of affiliates.  The aggregate of all covered transactions is limited in amount, as to any one affiliate, to 10% of the bank’s capital and surplus and, as to all affiliates combined, to 20% of the bank’s capital and surplus.  Furthermore, within the foregoing limitations as to amount, each covered transaction must meet specified collateral requirements.  The bank is forbidden to purchase low quality assets from an affiliate.

Section 23B of the Federal Reserve Act, among other things, prohibits an institution from engaging in certain transactions with certain affiliates unless the transactions are on terms substantially the same, or at least as favorable to such institution or its subsidiaries, as those prevailing at the time for comparable transactions with nonaffiliated companies.

Regulation W generally excludes all non-bank and non-savings association subsidiaries of banks from treatment as affiliates, except to the extent that the Federal Reserve Board decides to treat these subsidiaries as affiliates.  The regulation also limits the amount of loans that can be purchased by a bank from an affiliate to not more than 100% of the bank’s capital and surplus.

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The bank is also subject to certain restrictions on extensions of credit to executive officers, directors, certain principal shareholders, and their related interests.  Such extensions of credit (i) must be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with third parties and (ii) must not involve more than the normal risk of repayment or present other unfavorable features.

Branching.  Under current South Carolina law, we may open branch offices throughout South Carolina with the prior approval of the South Carolina Board of Financial Institutions and the FDIC.   In addition, with prior regulatory approval, the bank will be able to acquire existing banking operations in South Carolina.  Furthermore, federal legislation has been passed that permits interstate branching by banks if allowed by state law, and interstate merging by banks.  However, South Carolina law, with limited exceptions, currently permits branching across state lines only through interstate mergers.

Anti-Tying Restrictions.   Under amendments to the Bank Holding Company Act and Federal Reserve regulations, a bank is prohibited from engaging in certain tying or reciprocity arrangements with its customers.  In general, a bank may not extend credit, lease, sell property, or furnish any services or fix or vary the consideration for these on the condition that (i) the customer obtain or provide some additional credit, property, or services from or to the bank, the bank holding company or subsidiaries thereof or (ii) the customer may not obtain some other credit, property, or services from a competitor, except to the extent reasonable conditions are imposed to assure the soundness of the credit extended.  Certain arrangements are permissible: a bank may offer combined-balance products and may otherwise offer more favorable terms if a customer obtains two or more traditional bank products; and certain foreign transactions are exempt from the general rule.  A bank holding company or any bank affiliate also is subject to anti-tying requirements in connection with electronic benefit transfer services.

Community Reinvestment Act.  The Community Reinvestment Act (“CRA”) requires that, in connection with examinations of financial institutions within their respective jurisdictions, a financial institution’s primary regulator, which is the FDIC for the bank, shall evaluate the record of each financial institution in meeting the credit needs of its local community, including low and moderate income neighborhoods.  These factors are also considered in evaluating mergers, acquisitions, and applications to open a branch or facility.  Failure to adequately meet these criteria could impose additional requirements and limitations on our bank.  Additionally, we must publicly disclose the terms of various Community Reinvestment Act-related agreements.

Finance Subsidiaries.  Under the Gramm-Leach-Bliley Act (the “GLBA”), subject to certain conditions imposed by their respective banking regulators, national and state-chartered banks are permitted to form “financial subsidiaries” that may conduct financial or incidental activities, thereby permitting bank subsidiaries to engage in certain activities that previously were impermissible.  The GLBA imposes several safeguards and restrictions on financial subsidiaries, including that the parent bank’s equity investment in the financial subsidiary be deducted from the bank’s assets and tangible equity for purposes of calculating the bank’s capital adequacy.  In addition, the GLBA imposes new restrictions on transactions between a bank and its financial subsidiaries similar to restrictions applicable to transactions between banks and non-bank affiliates.

Consumer Protection Regulations.  Activities of the bank are subject to a variety of statutes and regulations designed to protect consumers.  Interest and other charges collected or contracted for by the bank are subject to state usury laws and federal laws concerning interest rates.  The bank’s loan operations are also subject to federal laws applicable to credit transactions, such as the:

·The federal Truth-In-Lending Act, governing disclosures of credit terms to consumer borrowers;

·The Home Mortgage Disclosure Act of 1975, requiring financial institutions to provide information to enable the public and public officials to determine whether a financial institution is fulfilling its obligation to help meet the housing needs of the community it serves;

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·The Equal Credit Opportunity Act, prohibiting discrimination on the basis of race, creed or other prohibited factors in extending credit;

·The Fair Credit Reporting Act of 1978, as amended by the Fair and Accurate Credit Transactions Act, governing the use and provision of information to credit reporting agencies, certain identity theft protections and certain credit and other disclosures;

·The Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies;

·The Credit Card Accountability, Responsibility, and Disclosure Act of 2009, governing interest rate increases and fee limits; and

·The Rules and regulations of the various federal agencies charged with the responsibility of implementing these federal laws.

The deposit operations of the bank also are subject to:

·the Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records; and

·the Electronic Funds Transfer Act and Regulation E issued by the Federal Reserve Board to implement that Act, which governs automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services.

Enforcement Powers.  The bank and its “institution-affiliated parties,” including its management, employees, agents, independent contractors, and consultants such as attorneys and accountants and others who participate in the conduct of the financial institution’s affairs, are subject to potential civil and criminal penalties for violations of law, regulations or written orders of a government agency. These practices can include the failure of an institution to timely file required reports or the filing of false or misleading information or the submission of inaccurate reports.  Civil penalties may be as high as $1,000,000 a day for such violations.  Criminal penalties for some financial institution crimes have been increased to 20 years.  In addition, regulators are provided with greater flexibility to commence enforcement actions against institutions and institution-affiliated parties.  Possible enforcement actions include the termination of deposit insurance.  Furthermore, banking agencies’ power to issue cease-and-desist orders were expanded.  Such orders may, among other things, require affirmative action to correct any harm resulting from a violation or practice, including restitution, reimbursement, indemnifications or guarantees against loss.  A financial institution may also be ordered to restrict its growth, dispose of certain assets, rescind agreements or contracts, or take other actions as determined by the ordering agency to be appropriate.

Anti-Money Laundering.   Financial institutions must maintain anti-money laundering programs that include established internal policies, procedures, and controls; a designated compliance officer; an ongoing employee training program; and testing of the program by an independent audit function. The company and the bank are also prohibited from entering into specified financial transactions and account relationships and must meet enhanced standards for due diligence and “knowing your customer” in their dealings with foreign financial institutions and foreign customers.  Financial institutions must take reasonable steps to conduct enhanced scrutiny of account relationships to guard against money laundering and to report any suspicious transactions, and recent laws provide law enforcement authorities with increased access to financial information maintained by banks.  Anti-money laundering obligations have been substantially strengthened as a result of the USA Patriot Act, enacted in 2001 and renewed in 2006.  Bank regulators routinely examine institutions for compliance with these obligations and are required to consider compliance in connection with the regulatory review of applications.  The regulatory authorities have been active in imposing “cease and desist” orders and money penalty sanctions against institutions found to be violating these obligations.

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USA PATRIOT Act.  The USA PATRIOT Act became effective on October 26, 2001, amended, in part, the Bank Secrecy Act, and provides, in part, for the facilitation of information sharing among governmental entities and financial institutions for the purpose of combating terrorism and money laundering by enhancing anti-money laundering and financial transparency laws, as well as enhanced information collection tools and enforcement mechanics for the U.S. government, including: (i) requiring standards for verifying customer identification at account opening; (ii) rules to promote cooperation among financial institutions, regulators, and law enforcement entities in identifying parties that may be involved in terrorism or money laundering; (iii) reports by nonfinancial trades and businesses filed with the Treasury Department’s Financial Crimes Enforcement Network for transactions exceeding $10,000; and (iv) filing suspicious activities reports by brokers and dealers if they believe a customer may be violating U.S. laws and regulations and requires enhanced due diligence requirements for financial institutions that administer, maintain, or manage private bank accounts or correspondent accounts for non-U.S. persons.  Bank regulators routinely examine institutions for compliance with these obligations and are required to consider compliance in connection with the regulatory review of applications.

Under the USA PATRIOT Act, the Federal Bureau of Investigation (“FBI”) can send our banking regulatory agencies lists of the names of persons suspected of involvement in terrorist activities.  The bank can be requested, to search its records for any relationships or transactions with persons on those lists.  If the bank finds any relationships or transactions, it must file a suspicious activity report and contact the FBI.

The Office of Foreign Assets Control (“OFAC”), which is a division of the Treasury, is responsible for helping to insure that United States entities do not engage in transactions with “enemies” of the United States, as defined by various Executive Orders and Acts of Congress.  OFAC has sent, and will send, our banking regulatory agencies lists of names of persons and organizations suspected of aiding, harboring or engaging in terrorist acts.  If the bank finds a name on any transaction, account or wire transfer that is on an OFAC list, it must freeze such account, file a suspicious activity report and notify the FBI.  The bank has appointed an OFAC compliance officer to oversee the inspection of its accounts and the filing of any notifications.  The bank actively checks high-risk OFAC areas such as new accounts, wire transfers and customer files.  The bank performs these checks utilizing software, which is updated each time a modification is made to the lists provided by OFAC and other agencies of Specially Designated Nationals and Blocked Persons.

Privacy and Credit Reporting.  Financial institutions are required to disclose their policies for collecting and protecting confidential information.  Customers generally may prevent financial institutions from sharing nonpublic personal financial information with nonaffiliated third parties except under narrow circumstances, such as the processing of transactions requested by the consumer or when the financial institution is jointly sponsoring a product or service with a nonaffiliated third party.  Additionally, financial institutions generally may not disclose consumer account numbers to any nonaffiliated third party for use in telemarketing, direct mail marketing or other marketing to consumers.  It is the bank’s policy not to disclose any personal information unless required by law.

Like other lending institutions, the bank utilizes credit bureau data in its underwriting activities.  Use of such data is regulated under the Federal Credit Reporting Act on a uniform, nationwide basis, including credit reporting, prescreening, sharing of information between affiliates, and the use of credit data.  The Fair and Accurate Credit Transactions Act of 2003 (the “FACT Act”) authorizes states to enact identity theft laws that are not inconsistent with the conduct required by the provisions of the FACT Act.

Payment of Dividends. A South Carolina state bank may not pay dividends from its capital.  All dividends must be paid out of undivided profits then on hand, after deducting expenses, including reserves for losses and bad debts.  In addition, under the FDIC Improvement Act, the bank may not pay a dividend if, after paying the dividend, the bank would be undercapitalized.  Currently, the bank must receive approval from the Treasury, the FDIC, and the South Carolina Board of Financial Institutions prior to declaring a dividend on its shares of common stock..

Check 21.  The Check Clearing for the 21st Century Act gives “substitute checks,” such as a digital image of a check and copies made from that image, the same legal standing as the original paper check.  Some of the major provisions include:

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·allowing check truncation without making it mandatory;

·demanding that every financial institution communicate to accountholders in writing a description of its substitute check processing program and their rights under the law;

·legalizing substitutions for and replacements of paper checks without agreement from consumers;

·retaining in place the previously mandated electronic collection and return of checks between financial institutions only when individual agreements are in place;

·requiring that when accountholders request verification, financial institutions produce the original check (or a copy that accurately represents the original) and demonstrate that the account debit was accurate and valid; and

·requiring the re-crediting of funds to an individual’s account on the next business day after a consumer proves that the financial institution has erred.

Effect of Governmental Monetary Policies.  Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies.  The Federal Reserve Bank’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession.  The monetary policies of the Federal Reserve Board have major effects upon the levels of bank loans, investments and deposits through its open market operations in United States government securities and through its regulation of the discount rate on borrowings of member banks and the reserve requirements against member bank deposits.  It is not possible to predict the nature or impact of future changes in monetary and fiscal policies.

Insurance of Accounts and Regulation by the FDIC.  Deposits at the bank are insured up to applicable limits by the Deposit Insurance Fund of the FDIC.  The Deposit Insurance Fund is the successor to the Bank Insurance Fund and the Savings Association Insurance Fund, which were merged effective March 31, 2006.  As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC insured institutions.  It also may prohibit any FDIC insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the insurance fund.  The FDIC also has the authority to initiate enforcement actions against savings institutions, after giving the Office of Thrift Supervision an opportunity to take such action, and may terminate the deposit insurance if it determines that the institution has engaged in unsafe or unsound practices or is in an unsafe or unsound condition.

Under regulations effective January 1, 2007, the FDIC adopted a new risk-based premium system that provides for quarterly assessments based on an insured institution’s ranking in one of four risk categories based upon supervisory and capital evaluations.  For deposits held as of March 31, 2009, institutions were assessed at annual rates ranging from 12 to 50 basis points, depending on each institution’s risk of default as measured by regulatory capital ratios and other supervisory measures.  Effective April 1, 2009, assessments also took into account each institution’s reliance on secured liabilities and brokered deposits.  This resulted in assessments ranging from 7 to 77.5 basis points.  In May 2009, the FDIC issued a final rule which levied a special assessment applicable to all insured depository institutions totaling 5 basis points of each institution’s total assets less Tier 1 capital as of June 30, 2009, not to exceed 10 basis points of domestic deposits.  This special assessment was part of the FDIC’s efforts to rebuild the Deposit Insurance Fund. We paid this one-time special assessment in the amount of $326,158 to the FDIC at the end of the third quarter 2009.

In November 2009, the FDIC issued a rule that required all insured depository institutions, with limited exceptions, to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012.  The FDIC also adopted a uniform three-basis point increase in assessment rates effective on January 1, 2011.  In December 2009, we paid $3.7 million in prepaid risk-based assessments, which included $238,939 related to the fourth quarter of 2009 that would have been otherwise

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payable in the first quarter of 2010.  This amount is included in deposit insurance expense for 2009.  The remaining $3.5 million in prepaid deposit insurance is included in accrued prepaid expenses for 2009.  As a result, we incurred increased insurance costs during 2009 than in previous periods.

FDIC insured institutions are required to pay a Financing Corporation assessment, in order to fund the interest on bonds issued to resolve thrift failures in the 1980s.  For the first quarter of 2009, the Financing Corporation assessment equaled 1.14 basis points for domestic deposits.  These assessments, which may be revised based upon the level of deposits, will continue until the bonds mature in the years 2017 through 2019.

The FDIC may terminate the deposit insurance of any insured depository institution, including the bank, if it determines after a hearing that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC or the OCC.  It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital.  If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC.  Management of the bank is not aware of any practice, condition or violation that might lead to termination of the bank’s deposit insurance.

Proposed Legislation and Regulatory Action.  Legislative and regulatory proposals regarding changes in banking, and the regulation of banks, federal savings institutions, and other financial institutions and bank and bank holding company powers are being considered by the executive branch of the federal government, Congress and various state governments. Certain of these proposals, if adopted, could significantly change the regulation or operations of banks and the financial services industry. New regulations and statutes are regularly proposed that contain wide-ranging proposals for altering the structures, regulations, and competitive relationships of the nation’s financial institutions. On June 17, 2009, the U.S. Treasury released a white paper entitled “Financial Regulatory Reform — A New Foundation: Rebuilding Financial Supervision and Regulation” (the “Proposal”) which calls for sweeping regulatory and supervisory reforms for the entire financial sector and seeks to advance the following five key objectives: (i) promote robust supervision and regulation of financial firms, (ii) establish comprehensive supervision of financial markets, (iii) protect consumers and investors from financial abuse, (iv) provide the government with additional powers to monitor systemic risks, supervise and regulate financial products and markets, and to resolve firms that threaten financial stability, and (v) raise international regulatory standards and improve international cooperation.

The Proposal also includes the creation of a new federal agency designed to enforce consumer protection laws. The Consumer Financial Protection Agency (“CFPA”) would have authority to protect consumers of financial products and services and to regulate all providers (bank and non-bank) of such services. The CFPA would be authorized to adopt rules for all providers of consumer financial services, supervise and examine such institutions for compliance, and enforce compliance through orders, fines, and penalties. The rules of the CFPA would serve as a “floor” and individual states would be permitted to adopt and enforce stronger consumer protection laws.

On November 10, 2009, Senate Banking Committee chairman Christopher Dodd proposed a significant regulatory reform bill that includes many of the features of the Proposal, including consolidating financial regulators, imposing higher capital requirements on financial institutions, remaking the derivatives industry, and shifting consumer protection from an overlapping patchwork of regulators to a single new commission, the CFPA.  This bill is still pending approval of the US Congress and many subsequent amendments have been proposed.  If this bill is adopted as proposed, we may become subject to multiple laws affecting its provision of loans and other credit services to consumers, which may substantially increase the cost of providing such services.

On February 2, 2010, the U.S. President called on the U.S. Congress to create a new Small Business Lending Fund.  Under this proposal, $30 billion in TARP funds would be transferred to a new program outside of TARP to support small business lending.  As proposed, only small- and medium-sized banks would qualify to participate in the program.

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New regulations and statutes are regularly proposed that contain wide-ranging proposals for altering the structures, regulations, and competitive relationships of the nation’s financial institutions.  We cannot predict whether or in what form any proposed regulation or statute will be adopted or the extent to which our business may be affected by any new regulation or statute.

Item 1A.  Risk Factors.

Our business, financial condition, and results of operations could be harmed by any of the following risks, or other risks that have not been identified or which we believe are immaterial or unlikely.  Shareholders should carefully consider the risks described below in conjunction with the other information in this Form 10-K and the information incorporated by reference in this Form 10-K, including our consolidated financial statements and related notes.

Negative developments in the financial industry and the domestic and international credit markets have adversely affected our operations and results.

Negative developments from the latter half of 2007 through 2009 in the global credit and securitization markets have resulted in uncertainty in the financial markets in general with the expectation of the general economic downturn continuing into 2010.  As a result of this “credit crunch,” commercial as well as consumer loan portfolio performances have deteriorated at many institutions and the competition for deposits and quality loans has increased significantly.  In addition, the values of real estate collateral supporting many commercial loans and home mortgages have declined and may continue to decline.  Global securities markets, and bank holding company stock prices in particular, have been negatively affected, as has the ability of banks and bank holding companies to raise capital or borrow in the debt markets.  As a result, significant new federal laws and regulations relating to financial institutions, including, without limitation, the EESA and Treasury’s CPP, have been adopted.  Furthermore, the potential exists for additional federal or state laws and regulations regarding, among other matters, lending and funding practices and liquidity standards, and bank regulatory agencies are expected to be active in responding to concerns and trends identified in examinations, including the expected issuance of many formal enforcement orders.  Negative developments in the financial industry and the domestic and international credit markets, and the impact of new legislation in response to those developments, may negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and adversely impact our financial performance.  We can provide no assurance regarding the manner in which any new laws and regulations will affect us.

There can be no assurance that recently enacted legislation will help stabilize the U.S. financial system.

As described above under “Supervision and Regulation,” in response to the challenges facing the financial services sector, a number of regulatory and governmental actions have been enacted or announced.  There can be no assurance that these government actions will achieve their purpose.  The failure of the financial markets to stabilize, or a continuation or worsening of the current financial market conditions, could have a material adverse affect on our business, our financial condition, the financial condition of our customers, our common stock trading price, as well as our ability to access credit.  It could also result in declines in our investment portfolio which could be “other-than-temporary impairments.”

Because of our participation in the Treasury Department’s CPP, we are subject to several restrictions including restrictions on compensation paid to our executives.

Pursuant to the terms of the CPP Purchase Agreement between us and Treasury, we adopted certain standards for executive compensation and corporate governance for the period during which Treasury holds the equity issued pursuant to the CPP Purchase Agreement, including the common stock which may be issued pursuant to the Warrant.  These standards generally apply to our named executive officers. The standards include (1) ensuring that incentive compensation for senior executives does not encourage unnecessary and excessive risks that threaten the value of the financial institution; (2) required clawback of any bonus or incentive compensation paid to a senior executive based on statements of earnings, gains or other criteria that are later proven to be materially inaccurate; (3) prohibition on making golden parachute payments to senior executives; (4) prohibition on providing tax gross-up provisions; and

21

(5) agreement not to deduct for tax purposes executive compensation in excess of $500,000 for each senior executive.  In particular, the change to the deductibility limit on executive compensation may likely increase the overall cost of our compensation programs in future periods and may make it more difficult to attract suitable candidates to serve as executive officers.

Legislation or regulatory changes could cause us to seek to repurchase the preferred stock and warrants that we sold to Treasury pursuant to the CPP.

Legislation that has been adopted after we closed on our sale of Series T Preferred Stock and the Warrants to the Treasury for $12,895,000 million pursuant to the CPP on March 6, 2009, or any legislation or regulations that may be implemented in the future, may have a material impact on the terms of our CPP transaction with the Treasury Department.   If we determine that any such legislation or any regulations, in whole or in part, alter the terms of our CPP transaction with the Treasury Department in ways that we believe are adverse to our ability to effectively manage our business, then it is possible that we may seek to unwind, in whole or in part, the CPP transaction by repurchasing some or all of the Series T Preferred Stock and Warrants that we sold to the Treasury Department pursuant to the CPP.  If we were to repurchase all or a portion of such Series T Preferred Stock or Warrants, then our capital levels could be materially reduced.

The Series T Preferred Stock impacts net income available to our common shareholders and earnings per common share, and the warrant we issued to Treasury may be dilutive to holders of our common stock.

The dividends declared on the Series T Preferred Stock will reduce the net income available to common shareholders and our earnings per common share. The Series T Preferred Stock will also receive preferential treatment in the event of liquidation, dissolution or winding up of the company.  Additionally, the ownership interest of the existing holders of our common stock will be diluted to the extent the warrant we issued to Treasury in conjunction with the sale to Treasury of the Series T Preferred Stock is exercised.  The shares of common stock underlying the warrant represent approximately 2.43% of the shares of our common stock outstanding as of December 31, 2009 (including the shares issuable upon exercise of the warrant in total shares outstanding).  Although Treasury has agreed not to vote any of the shares of common stock it receives upon exercise of the warrant, a transferee of any portion of the warrant or of any shares of common stock acquired upon exercise of the warrant is not bound by this restriction.  We note, however, that the exercise price on Treasury’s warrant is $21.09 and the company’s current trading price was approximately $11 at December 31, 2009.

Moreover, the securities purchase agreement between us and the Treasury pursuant to the CPP provides that prior to the earlier of (i) three years from the date of sale and (ii) the date on which all of the shares of the preferred stock have been redeemed by us or transferred by the Treasury to third parties, we may not, without the consent of the Treasury, (a) pay the cash dividend on our common stock or (b) subject to limited exceptions, redeem, repurchase or otherwise acquire shares of our common stock or preferred stock (other than the Series T Preferred Stock) or trust preferred securities.

Continuation of the economic downturn could reduce our customer base, our level of deposits, and demand for financial products such as loans.

Our success significantly depends upon the growth in population, income levels, deposits, and housing starts in our markets.  The current economic downturn has negatively affected the markets in which we operate and, in turn, the quality of our loan portfolio.  If the communities in which we operate do not grow or if prevailing economic conditions locally or nationally remain unfavorable, our business may not succeed.  A continuation of the economic downturn or prolonged recession would likely result in the continued deterioration of the quality of our loan portfolio and reduce our level of deposits, which in turn would hurt our business.  Interest received on loans represented approximately 76.2% of our interest income for the year ended December 31, 2009.  If the economic downturn continues or a prolonged economic recession occurs in the economy as a whole, borrowers will be less likely to repay their loans as scheduled.  Moreover, in many cases the value of real estate or other collateral that secures our loans has been adversely affected by the economic conditions and could continue to be negatively affected.  Unlike many larger institutions, we are not able to spread the risks of unfavorable local economic conditions across

22

a large number of diversified economies.  A continued economic downturn could, therefore, result in losses that materially and adversely affect our business.

A significant portion of our loan portfolio is secured by real estate, and events that negatively impact the real estate market could hurt our business.

A significant portion of our loan portfolio is secured by real estate.  As of December 31, 2009, approximately 81.7% of our loans had real estate as a primary or secondary component of collateral.  The real estate collateral in each case provides an alternate source of repayment in the event of default by the borrower and may deteriorate in value during the time the credit is extended.  The recent weakening of the real estate market in the Myrtle Beach area could result in an increase in the number of borrowers who default on their loans and a reduction in the value of the collateral securing their loans, which in turn could have an adverse effect on our profitability and asset quality.  If we are required to liquidate the collateral securing a loan to satisfy the debt during a period of reduced real estate values, our earnings and capital could be adversely affected.  Acts of nature, including hurricanes, tornados, earthquakes, fires and floods, each of which may be exacerbated by global climate change and may cause uninsured damage and other loss of value to real estate that secures these loans, may also negatively impact our financial condition.

Our small- to medium-sized business target markets may have fewer financial resources to weather a continued downturn in the economy.

We target the banking and financial services needs of small- and medium-sized businesses.  These businesses generally have fewer financial resources in terms of capital borrowing capacity than larger entities.  If general economic conditions continue to negatively impact these businesses in the markets in which we operate, our business, financial condition, and results of operation may be adversely affected.

Our FDIC Deposit Insurance premiums have risen significantly in the recent past and may continue to increase in the future as a result of increased assessment rates imposed by the FDIC.

As a member institution of the FDIC, we are required to pay semi-annual deposit insurance premium assessments to the FDIC.  During the year ended December 31, 2009, we paid $1,236,950 in deposit insurance assessments.  Due to the recent failure of several unaffiliated FDIC insurance depository institutions, and the FDIC’s new TLGP, the deposit insurance premium assessments paid by all banks has increased.  In addition, new FDIC requirements shift a greater share of any increase in such assessments onto institutions with higher risk profiles, including banks with heavy reliance on brokered deposits, such as our bank.  In the fourth quarter of 2009, the FDIC collected prepaid insurance assessments for the three years ending December 31, 2012 in an effort to restore fund balances.  We were required to pay approximately $3.5 million in prepaid insurance premiums which is included in other assets at December 31, 2009.  Continued increases in this expense would have a material adverse effect on our financial condition.

Our continued pace of growth may require us to raise additional capital in the future, but that capital may not be available when it is needed.

We are required by regulatory authorities to maintain adequate levels of capital to support our operations.  To support our continued growth, we may need to raise additional capital.  In addition, we intend to redeem the Series T Preferred Stock that we issued to Treasury under the CPP before the dividends on the Series T Preferred Stock increase from 5% per annum to 9% per annum in 2014, and we may need to raise additional capital to do so.  Our ability to raise additional capital, if needed, will depend in part on conditions in the capital markets at that time, which are outside our control.  Accordingly, we cannot assure you of our ability to raise additional capital, if needed, on terms acceptable to us.  If we cannot raise additional capital when needed, our ability to further expand our operations through internal growth and acquisitions could be materially impaired.  In addition, if we decide to raise additional equity capital, your interest could be diluted.

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We depend heavily on out of market deposits as a source of funding.

As of December 31, 2009, 18.0% of our deposits were obtained from out of market sources.  To continue to have access to this source of funding, we are required to be classified as a “well capitalized” bank by the FDIC; whereas, if we only “meet” the capital requirement, we must obtain permission from the FDIC in order to continue utilizing this source of funding.

We are exposed to the possibility of technology failure.

We rely on our computer systems and the technology of outside service providers. Our daily operations depend on the operational effectiveness of their technology. We rely on our systems to accurately track and record our assets and liabilities. If our computer systems or outside technology sources become unreliable, fail, or experience a breach of security, our ability to maintain accurate financial records may be impaired, which could materially affect our business operations and financial condition.

Our recent operating results may not be indicative of our future operating results.

We may not be able to sustain our historical rates of growth of assets and earnings, and we may not be able to grow our business at all.  Although we have plans for continued expansion of our company, our historical results of operation will not necessarily be indicative of our future operations.  Various factors, such as economic conditions, regulatory and legislative considerations, and competition, may also impede our ability to expand our market presence.  If we experience a significant decrease in our historical rate of growth, our results of operations and financial condition may be adversely affected because a high percentage of our operating costs are fixed expenses.

Our decisions regarding credit risk and reserves for loan losses may materially and adversely affect our business.

Making loans and other extensions of credit is an essential element of our business.  Although we seek to mitigate risks inherent in lending by adhering to specific underwriting practices, our loans and other extensions of credit may not be repaid.  The risk of nonpayment is affected by a number of factors, including:

·the duration of the credit;

·credit risks of a particular customer;

·changes in economic and industry conditions; and

·in the case of a collateralized loan, risks resulting from uncertainties about the future value of the collateral.

We attempt to maintain an appropriate allowance for loan losses to provide for potential losses in our loan portfolio.  We periodically determine the amount of the allowance based on consideration of several factors, including:

·an ongoing review of the quality, mix, and size of our overall loan portfolio;

·our historical loan loss experience;

·evaluation of economic conditions;

·regular reviews of loan delinquencies and loan portfolio quality; and

·the amount and quality of collateral, including guarantees, securing the loans.

There is no precise method of predicting credit losses; therefore, we face the risk that charge-offs in future periods will exceed our allowance for loan losses and that additional increases in the allowance for loan losses will be required.  Additions to the allowance for loan losses would result in a decrease of our net income, and possibly our capital.

While we generally underwrite the loans in our portfolio in accordance with our own internal underwriting guidelines and regulatory supervisory guidelines, in certain circumstances we have made loans, which exceed either our internal underwriting guidelines, supervisory guidelines, or both. The aggregate amount of all loans in excess of the supervisory loans-to-value limits should not exceed 100% of our bank’s capital.  As of December 31, 2009, approximately $17.1 million of our loans, or 38.0% of our

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bank’s capital, had loan-to-value ratios that exceeded regulatory supervisory guidelines.  In addition, within the aggregate limit noted above, total loans for all commercial, agricultural, multifamily or other non 1-4 family residential properties should not exceed 30% of total capital.  At December 31, 2009, loans collateralized by commercial, agricultural, multifamily or other non 1-4 family residential properties that exceeded the supervisory loan to value ratio were $7.6 million, or 16.9% of the bank’s capital.  The number of loans in our portfolio with loan-to-value ratios in excess of supervisory guidelines, our internal guidelines, or both could increase the risk of delinquencies and defaults in our portfolio.

A percentage of the loans in our portfolio currently include exceptions to our loan policies and supervisory guidelines.

All of the loans that we make are subject to written loan policies adopted by our board of directors and to supervisory guidelines imposed by our regulators.  Our loan policies are designed to reduce the risks associated with the loans that we make by requiring our loan officers to take certain steps that vary depending on the type and amount of the loan, prior to closing a loan.  These steps include, among other things, making sure the proper liens are documented and perfected on property securing a loan, and requiring proof of adequate insurance coverage on property securing loans.  Loans that do not fully comply with our loan policies are known as “exceptions.”  We categorize exceptions as policy exceptions, financial statement exceptions and collateral exceptions.  As a result of these exceptions, such loans may have a higher risk of loan loss than the other loans in our portfolio that fully comply with our loan policies.  In addition, we may be subject to regulatory action by federal or state banking authorities if they believe the number of exceptions in our loan portfolio represents an unsafe banking practice.  Although we have taken steps to enhance the quality of our loan portfolio, we may not be successful in reducing the number of exceptions.

Lack of seasoning of our loan portfolio may increase the risk of credit defaults in the future.

Due to the growth of our bank into new markets over the past several years and our short operating history in these communities, a large portion of the loans in our loan portfolio and of our lending relationships are of relatively recent origin.  In general, loans do not begin to show signs of credit deterioration or default until they have been outstanding for some period of time, a process we refer to as “seasoning.”  As a result, a portfolio of older loans will usually behave more predictably than a newer portfolio.  Because a substantial portion of our loan portfolio is relatively new, the current level of delinquencies and defaults may not be representative of the level that will prevail when the portfolio becomes more seasoned, which may be higher than current levels.  If delinquencies and defaults increase, we may be required to increase our provision for loan losses, which would adversely affect our results of operations and financial condition.

Changes in prevailing interest rates may reduce our profitability.

Our results of operations depend in large part upon the level of our net interest income, which is the difference between interest income from interest-earning assets, such as loans and securities, and interest expense on interest-bearing liabilities, such as deposits and other borrowings.  Depending on the terms and maturities of our assets and liabilities, a significant change in interest rates could have a material adverse effect on our profitability.  Many factors cause changes in interest rates, including governmental monetary policies and domestic and international economic and political conditions.  While we intend to manage the effects of changes in interest rates by adjusting the terms, maturities, and pricing of our assets and liabilities, our efforts may not be effective and our financial condition and results of operations could suffer.  During the second half of 2007, the Federal Reserve began to reduce short-term interest rates, which had an adverse effect on our earnings in 2008 and 2009 and may continue to negatively impact our earnings in 2010.

We are dependent on key individuals and the loss of one or more of these key individuals could curtail our growth and adversely affect our prospects.

James R. Clarkson, our president and chief executive officer, has extensive and long-standing ties within our primary market area and he has contributed significantly to our growth.  If we lose the services of Mr. Clarkson, he would be difficult to replace, and our business and development could be materially

25

and adversely affected.

Our success also depends, in part, on our continued ability to attract and retain experienced loan originators, as well as other management personnel.  The loss of the services of several of such key personnel could adversely affect our growth strategy and prospects to the extent we are unable to replace such personnel.

We are subject to extensive regulation that could limit or restrict our activities.

We operate in a highly regulated industry and are subject to examination, supervision, and comprehensive regulation by various regulatory agencies.  Our compliance with these regulations is costly and restricts certain of our activities, including payment of dividends, mergers and acquisitions, investments, loans and interest rates charged, interest rates paid on deposits, and locations of offices.  We are also subject to capitalization guidelines established by our regulators, which require us to maintain adequate capital to support our growth.

The laws and regulations applicable to the banking industry could change at any time, and we cannot predict the effects of these changes on our business and profitability.  Because government regulation greatly affects the business and financial results of all commercial banks and bank holding companies, our cost of compliance could adversely affect our ability to operate profitably.

The Sarbanes-Oxley Act of 2002, and the related rules and regulations promulgated by the Securities and Exchange Commission that are now applicable to us have increased the scope, complexity, and cost of corporate governance, reporting, and disclosure practices.  We have experienced, and we expect to continue to experience, greater compliance costs, including costs related to internal controls, as a result of the Sarbanes-Oxley Act.

During 2009, management has evaluated and reported on the internal controls of the company in which our independent registered public accounting firm will attest to our internal controls for fiscal year 2010.  We are performing the system and process evaluation and testing (and any necessary remediation) required to comply with the management certification and auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act. While we currently anticipate that we will be able to fully implement the requirements relating to internal controls and all other aspects of Section 404 in a timely manner, as required by Section 404 and the SEC’s related regulations, we could identify deficiencies that we may not be able to remediate in time to meet this deadline. If we are not able to implement or maintain the requirements of Section 404 in a timely manner or with adequate compliance, we could be subject to scrutiny by regulatory authorities and the trading price of our stock could decline.  Moreover, effective internal controls are necessary for us to produce reliable financial reports and are important to helping prevent financial fraud. If we cannot provide reliable financial reports or prevent fraud, our business and operating results could be harmed, investors and regulators could lose confidence in our reported financial information, and the trading price of our stock could drop significantly.   We currently anticipate that we will fully implement the requirements relating to internal controls and all other aspects of Section 404 within the required time frames.

Proposals for further regulation of the financial services industry are continually be introduced in the U.S. Congress and the General Assembly of the State of South Carolina.  The agencies regulating the financial services industry also periodically adopt changes to their regulations.  See the “Supervision and Regulation” section of this Form 10-K for a summary description of proposed regulations and legislative action that has been introduced and/or adopted over the past two years.  It is possible that additional legislative proposals may be adopted or regulatory changes may be made that would have an adverse effect on our business.

We face strong competition for customers, which could prevent us from obtaining customers and may cause us to pay higher interest rates to attract customers.

The banking business is highly competitive, and we experience competition in our market from many other financial institutions.  We compete with commercial banks, credit unions, savings and loan

26

associations, mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market funds, and other mutual funds, as well as other super-regional, national, and international financial institutions that operate offices in our primary market areas and elsewhere.  We compete with these institutions both in attracting deposits and in making loans.  In addition, we have to attract our client base from other existing financial institutions and from new residents.  Many of our competitors are well-established, larger financial institutions.  These institutions offer some services, such as extensive and established branch networks, that we do not currently provide.  Also, a number of community banks are entering our primary service area.  They include de novo banks and branches of established banking operations, both headquartered in-market as well as out-of-market.  As is the case with other financial service providers, they are attracted to our primary service area’s demographic trends and growing deposit base.  There is a risk that we will not be able to compete successfully with other financial institutions in our market, and that we may have to pay higher interest rates to attract deposits, resulting in reduced profitability.  In addition, competitors that are not depository institutions are generally not subject to the extensive regulations that apply to us.

We will face risks with respect to future expansion and acquisitions or mergers.

We may seek to acquire other financial institutions or parts of those institutions.  We may also expand into new markets or lines of business or offer new products or services.  These activities would involve a number of risks, including:

·taking additional time and creating expense associated with identifying and evaluating potential acquisitions and merger partners;

·using inaccurate estimates and judgments to evaluate credit, operations, management, and market risks with respect to the target institution or assets;

·diluting our existing shareholders in an acquisition;

·taking additional time and creating expense associated with evaluating new markets for expansion, hiring experienced local management, and opening new offices, as there may be a substantial time lag between these activities before we generate sufficient assets and deposits to support the costs of the expansion;

·taking a significant amount of time negotiating a transaction or working on expansion plans, resulting in management’s attention being diverted from the operation of our existing business;

·taking time and creating expense integrating the operations and personnel of the combined businesses;

·creating an adverse short-term effect on our results of operations; and

·losing key employees and customers as a result of an acquisition that is poorly received.

We have never acquired another institution before, so we lack experience in handling any of these risks.  There is also a risk that any expansion effort will not be successful.

The success of our growth strategy depends on our ability to identify and retain individuals with experience and relationships in the markets in which we presently operate as well as those into which we intend to expand.

To expand our coastal franchise successfully, we must identify and retain experienced key management members with local expertise and relationships in these markets.  We expect that competition for qualified management in the markets in which we now operate and into which we may expand will be intense and that there will be a limited number of qualified persons with knowledge of and experience in the community banking industry in these markets.  Even if we identify individuals that we believe could assist us in establishing a presence in a new market, we may be unable to recruit these individuals away from more established financial institutions.  In addition, the process of identifying and recruiting individuals with the combination of skills and attributes required to carry out our strategy requires both management and financial resources and is often lengthy.  Our inability to identify, recruit, and retain talented personnel to manage new offices effectively would limit our growth and could materially adversely affect our business, financial condition, and results of operations.

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Item 1B.   Unresolved Staff Comments.

None.

Item 2.   Description of Property.

The main office of the bank is located at 5009 Broad Street, Loris, South Carolina, 29569.  Our operational support services and executive offices are located in our Operations Center at 3640 Ralph Ellis Boulevard, Loris, South Carolina, 29569.  Our operational support services include central deposit and central credit operations, computer operations, audit and compliance operations, human resources, training, marketing and credit administration operations.  Currently we have for sale or lease our former Operations Center at 5201 Broad Street, Loris, South Carolina, 29569.

The bank presently owns 12 lots on which we have branch banking facilities in addition to the previously mentioned lot which houses our former operations facility and the lot which houses our current Operations Center.  In addition, the bank has entered into one long-term lease agreement for a lot on which we have built a branch banking facility at 3210 Highway 701 Bypass, Loris, South Carolina, 29569.

The bank completed construction of a permanent Ocean Drive Beach branch at 609 Highway 17 South, North Myrtle Beach, South Carolina, 29582 in August 2009.

Item 3.   Legal Proceedings.

In the ordinary course of operations, we may be a party to various legal proceedings from time to time.  We do not believe that there is any pending or threatened proceeding against us, which, if determined adversely, would have a material effect on our business, results of operations, or financial condition.

Item 4.   (Removed and Reserved.)

PART II

Item 5.   Market for Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

The information required by Item 5 is hereby incorporated by reference from our annual report to shareholders for the year ended December 31, 2009.

Item 6.   Selected Financial Data.

N/A.

Item 7.   Management’s Discussion and Analysis or Plan of Operation.

The information required by Item 7 is hereby incorporated by reference from our annual report to shareholders for the year ended December 31, 2009.

Item 8.   Financial Statements and Supplementary Data.

The information required by Item 8 is hereby incorporated by reference from our annual report to shareholders for the year ended December 31, 2009.

Item 9.   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.

None.

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Item 9A(T).  Controls and Procedures.

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e).  Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our current disclosure controls and procedures are effective as of December 31, 2009.  There have been no significant changes in our internal controls over financial reporting during the fourth fiscal quarter ended December 31, 2009 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

The design of any system of controls and procedures is based in part upon certain assumptions about the likelihood of future events.  There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

Management’s Annual Report on Internal Controls Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in the Exchange Act Rules 13a-15(f).  A system of internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

Under the supervision and with the participation of management, including the principal executive officer and the principal financial officer, the Company’s management has evaluated the effectiveness of its internal control over financial reporting as of December 31, 2009 based on the criteria established in a report entitled “Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission” and the interpretive guidance issued by the Commission in Release No. 34-55929.  Based on this evaluation, the Company’s management has evaluated and concluded that the Company’s internal control over financial reporting was effective as of December 31, 2009.

The Company is continuously seeking to improve the efficiency and effectiveness of its operations and of its internal controls. This results in modifications to its processes throughout the Company. However, there has been no change in its internal control over financial reporting that occurred during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

This annual report does not include an attestation report of the company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the company to provide only management’s report in this annual report.

Item 9B.  Other Information.

In accordance with the Company’s corporate governance principles, Boyd R. Ford, Jr. and J. Lavelle Coleman will not stand for re-election to the Board of Directors at the Company’s 2010 annual meeting of shareholders because they have reached the mandatory retirement age of 70. Messrs. Ford and Coleman will complete their current term on the Board of Directors, which expires at the Company’s 2010 annual meeting of shareholders.

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PART III

Item 10.  Directors, Executive Officers and Corporate Governance

Code of Ethics

We have adopted a Code of Ethics that applies to our board of directors, principal executive officer, principal financial officer, senior financial officers, and other executive officers in accordance with the Sarbanes-Oxley Corporate Responsibility Act of 2002.  The Code of Ethics is available to our shareholders via the internet at www.hcsbaccess.com.

Additional information required by Item 10 is hereby incorporated by reference from our proxy statement for our 2010 annual meeting of shareholders to be held on April 22, 2010.

Item 11.  Executive Compensation.

Information required by Item 11 is hereby incorporated by reference from our proxy statement for our 2010 annual meeting of shareholders to be held on April 22, 2010.

Item 12.  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

The following table sets forth the equity compensation plan information at December 31, 2009.

Equity Compensation Plan Information

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights(a)	Weighted-average exercise price of outstanding options, warrants and rights (b)		Number of securities remaining available for future issuance under equity compensation plans (c) (excluding securities reflected in column(a)) (1)
Equity compensation plans approved by security holders	82,788	$	14.14	341,572
Equity compensation plans not approved by security holders	0	$	0.00	0
Total	82,788	$	14.14	341,572

(1)The HCSB Financial Corporation Omnibus Stock Ownership and Long Term Incentive Plan authorizes the grant of options and the award of restricted stock from time to time during the term of the plan.  The employees included in the plan include the executive officers of the corporation as well as certain non-executive officer employees.  This column includes 156,681 options and 184,891 shares of restricted stock.

Additional information required by Item 12 is hereby incorporated by reference from our proxy statement for our 2010 annual meeting of shareholders to be held on April 22, 2010.

Item 13.  Certain Relationships and Related Transactions, and Director Independence.

In response to this Item 13, the information contained on page 18 of our Proxy Statement for the Annual Meeting of Shareholders to be held on April 22, 2010 is incorporated herein by reference.

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Item 14.  Principal Accountant Fees and Services.

Information required by Item 14 is hereby incorporated by reference from our proxy statement for our 2010 annual meeting of shareholders to be held on April 22, 2010.

Item 15.  Exhibits

3.1	Articles of Incorporation (incorporated by reference to Exhibit 3.1 to the Company’s Form 10-KSB for the fiscal year ended December 31, 1999).
3.2	Bylaws (incorporated by reference to Exhibit 3.2 to the Company’s Form 10-KSB for the fiscal year ended December 31, 1999).
3.3	Articles of Amendment to Authorize Preferred Shares, filed March 2, 2009 (incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K filed March 6, 2009).
3.4	Articles of Amendment to the Company’s Restated Articles of Incorporation establishing the terms of the Series T Preferred Stock (incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K filed March 10, 2009).
4.1	Warrant to Purchase up to 91,714 shares of Common Stock (incorporated by reference to Exhibit 4.1 to the Company’s Form 8-K filed March 10, 2009).
4.2	Form of Series T Preferred Stock Certificate (incorporated by reference to Exhibit 4.2 to the Company’s Form 8-K filed March 10, 2009).
10.1	HCSB Financial Corporation Omnibus Stock Ownership and Long Term Incentive Plan (incorporated by reference to Exhibit 10.1 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2003).*
10.2	Form of Restricted Stock Option Agreement (incorporated by reference to Exhibit 10.2 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2004).*
10.3	Form of Incentive Stock Option Agreement (incorporated by reference to Exhibit 10.3 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2004).*
10.4	Form of Director Deferred Compensation Agreement adopted in 1997 by and between the Board of Directors and Horry County State Bank (incorporated by reference to Exhibit 10.4 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2006).*
10.5	Letter Agreement, dated March 6, 2009, including Securities Purchase Agreement — Standard Terms incorporated by reference therein, between the Company and the United States Department of the Treasury (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed March 10, 2009).*
10.6	ARRA Side Letter Agreement, dated March 6, 2009, between the Company and the United States Department of the Treasury (incorporated by reference to Exhibit 10.2 to the Company’s Form 8-K filed March 10, 2009).*
10.7	Form of Waiver, executed by each of Messrs. James R. Clarkson, Edward L. Loehr, Jr., and Glenn R. Bullard (incorporated by reference to Exhibit 10.3 to the Company’s Form 8-K filed March 10, 2009).*
10.8	Form of Letter Amendment, executed by each of Messrs. James R. Clarkson, Edward L. Loehr, Jr., and Glenn R. Bullard with the Company (incorporated by reference to Exhibit 10.4 to the Company’s Form 8-K filed March 10, 2009).*
10.9	Form of Salary Continuation Agreement adopted April 4, 2008 (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed April 9, 2008).*
13	The Company’s 2009 Annual Report.
21	Subsidiaries of Registrant.

31

24	Power of Attorney (contained on signature pages herewith).
31.1	Rule 13a-14(a) Certification of the Chief Executive Officer.
31.2	Rule 13a-14(a) Certification of the Principal Financial Officer.
32	Section 1350 Certifications.
99.1	Certification of the Chief Executive Officer Pursuant to Section 111(b)(4) of the Emergency Economic Stabilization Act of 2008.
99.2	Certification of the Chief Financial Officer Pursuant to Section 111(b)(4) of the Emergency Economic Stabilization Act of 2008.

* Management contract of compensatory plan or arrangement required to be filed as an Exhibit to this Annual Report on Form 10-K.

32

SIGNATURES

In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

		HCSB FINANCIAL CORPORATION
Date: March 18, 2010	By:	/s/James R. Clarkson
	James R. Clarkson, President
	& Chief Executive Officer

KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints James R. Clarkson, his true and lawful attorney-in-fact and agent, with full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto attorney-in-fact and agent full power and authority to do and perform each and every act and thing requisite or necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that attorney-in-fact and agent, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof.

In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant in the capacities and on the dates indicated.

By:	/s/Michael S. Addy	Date: March 18, 2010
	Michael S. Addy, Director
By:	/s/Johnny C. Allen	Date: March 18, 2010
	Johnny C. Allen, Director
By:	/s/Clay D. Brittain, III	Date: March 18, 2010
	Clay D. Brittain, III, Director
By:	/s/Rachel B. Broadhurst	Date: March 18, 2010
	Rachel B. Broadhurst, Director
By:	/s/Russell R. Burgess, Jr.	Date: March 18, 2010
	Russell R. Burgess, Jr., Director
By:	/s/D. Singleton Bailey	Date: March 18, 2010
	D. Singleton Bailey, Director
By:	/s/Franklin C. Blanton	Date: March 18, 2010
	Franklin C. Blanton, Director
By:	/s/Boyd R. Ford, Jr.	Date: March 18, 2010
	Boyd R. Ford, Jr., Director
By:	/s/James R. Clarkson	Date: March 18, 2010
	James R. Clarkson, Director, President & Chief Executive Officer
By:	/s/J. Lavelle Coleman	Date: March 18, 2010
	J. Lavelle Coleman, Director

33

By:	/s/Larry G. Floyd	Date: March 18, 2010
	Larry G. Floyd, Director
By:	/s/Tommie W. Grainger	Date: March 18, 2010
	Tommie W. Grainger, Director
By:	/s/Gwyn G. McCutchen	Date: March 18, 2010
	Gwyn G. McCutchen, Director
By:	/s/T. Freddie Moore	Date: March 18, 2010
	T. Freddie Moore, Director
By:	/s/Carroll D. Padgett, Jr.	Date: March 18, 2010
	Carroll D. Padgett, Jr., Director

34

EXHIBIT INDEX

3.1	Articles of Incorporation (incorporated by reference to Exhibit 3.1 to the Company’s Form 10-KSB for the fiscal year ended December 31, 1999).
3.2	Bylaws (incorporated by reference to Exhibit 3.2 to the Company’s Form 10-KSB for the fiscal year ended December 31, 1999).
3.3	Articles of Amendment to Authorize Preferred Shares, filed March 2, 2009 (incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K filed March 6, 2009).
3.4	Articles of Amendment to the Company’s Restated Articles of Incorporation establishing the terms of the Series T Preferred Stock (incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K filed March 10, 2009).
4.1	Warrant to Purchase up to 91,714 shares of Common Stock (incorporated by reference to Exhibit 4.1 to the Company’s Form 8-K filed March 10, 2009).
4.2	Form of Series T Preferred Stock Certificate (incorporated by reference to Exhibit 4.2 to the Company’s Form 8-K filed March 10, 2009).
10.1	HCSB Financial Corporation Omnibus Stock Ownership and Long Term Incentive Plan (incorporated by reference to Exhibit 10.1 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2003).*
10.2	Form of Restricted Stock Option Agreement (incorporated by reference to Exhibit 10.2 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2004).*
10.3	Form of Incentive Stock Option Agreement (incorporated by reference to Exhibit 10.3 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2004).*
10.4	Form of Director Deferred Compensation Agreement adopted in 1997 by and between the Board of Directors and Horry County State Bank (incorporated by reference to Exhibit 10.4 to the Company’s Form 10-KSB for the fiscal year ended December 31, 2006).*
10.5	Letter Agreement, dated March 6, 2009, including Securities Purchase Agreement — Standard Terms incorporated by reference therein, between the Company and the United States Department of the Treasury (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed March 10, 2009).*
10.6	ARRA Side Letter Agreement, dated March 6, 2009, between the Company and the United States Department of the Treasury (incorporated by reference to Exhibit 10.2 to the Company’s Form 8-K filed March 10, 2009).*
10.7	Form of Waiver, executed by each of Messrs. James R. Clarkson, Edward L. Loehr, Jr., and Glenn R. Bullard (incorporated by reference to Exhibit 10.3 to the Company’s Form 8-K filed March 10, 2009).*
10.8	Form of Letter Amendment, executed by each of Messrs. James R. Clarkson, Edward L. Loehr, Jr., and Glenn R. Bullard with the Company (incorporated by reference to Exhibit 10.4 to the Company’s Form 8-K filed March 10, 2009).*
10.9	Form of Salary Continuation Agreement adopted April 4, 2008 (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed April 9, 2008).*
13	The Company’s 2009 Annual Report.
21	Subsidiaries of Registrant.
24	Power of Attorney (contained on signature pages herewith).
31.1	Rule 13a-14(a) Certification of the Chief Executive Officer.

35

31.2	Rule 13a-14(a) Certification of the Principal Financial Officer.
32	Section 1350 Certifications.
99.1	Certification of the Chief Executive Officer Pursuant to Section 111(b)(4) of the Emergency Economic Stabilization Act of 2008.
99.2	Certification of the Chief Financial Officer Pursuant to Section 111(b)(4) of the Emergency Economic Stabilization Act of 2008.

* Management contract of compensatory plan or arrangement required to be filed as an Exhibit to this Annual Report on Form 10-K.

36

EX-13

Exhibit 13

HCSB FINANCIAL CORPORATION

HORRY COUNTY STATE BANK

Loris, South Carolina

Annual Report

2009

www.hcsbaccess.com

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Contents

	Page
Message to Shareholders	2
Ten Year History	4
Selected Financial Data	5
Description of Company’s Business	6
Market for Common Share and Dividends	7
Management’s Discussion and Analysis of Financial Condition and Results of Operations	8-30
Report of Independent Registered Public Accounting Firm	31
Consolidated Balance Sheets	32
Consolidated Statements of Income	33
Consolidated Statements of Changes in Shareholders’ Equity and Comprehensive Income	34
Consolidated Statements of Cash Flows	35
Notes to Consolidated Financial Statements	36-62
Board of Directors	63
Corporate Officers	64
Branch Locations	64

Headquarters

3640 Ralph Ellis Boulevard	Mailing Address:
Loris, South Carolina 29569	Post Office Box 218
(843) 756-4272	Loris, South Carolina 29569

Certain statements in this annual report contain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, such as statements relating to the future plans and expectations, and are thus prospective. Such forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results to differ materially from future results expressed or implied by such forward-looking statements.  Please see our annual report filed on Form 10-K for further discussion of these risks.

HCSB Financial Corporation will furnish, free of charge, copies of the Annual Report and the Company’s Report to the Securities and Exchange Commission (Form 10-K) upon written request to James R. Clarkson, President and C.E.O., HCSB Financial Corporation, Post Office Box 218, Loris, South Carolina 29569.

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

MESSAGE TO SHAREHOLDERS

The year 2009 proved to be the most tumultuous year for our nation’s financial system since the 1930’s.  It was marked by a stagnant economy, a real estate market that continued to sag, the near collapse of two of America’s largest automobile manufacturers, rising unemployment that reached double digits, over 100 bank failures nationwide and a general demise in public confidence that resulted from these factors.

The local economy in which Horry County State Bank operates suffered through many of these same turmoils as our real estate market dipped substantially in activity and values, especially in the areas of condominiums and single family residential developments.  The influx of new residents into our communities slowed dramatically as many of those who would have normally moved here were unable to sell their homes elsewhere and thus not able to reinvest in new residences here.

Rising unemployment across our country caused many tourists to either cancel vacations to our beaches or to shorten their stays from full weeks to oftentimes three or four days.  It also had a negative impact on our golf industry as many Americans simply began looking in earnest last year for ways to reduce spending.  As a result of all of this, our local unemployment rates also climbed into the double digits.

Going into 2009 the single most negative impact to Horry County State Bank was the adverse effect of low interest rates on our bank’s net interest margin, which serves as our primary source of revenue.  With drastic setbacks experienced in the real estate market and the resulting impacts on many businesses and individuals in our marketplace, however, credit quality issues rapidly became our bank’s primary concern.

As with virtually every bank in America, the rates of delinquencies and defaults rose to an all-time high, as did our inventory of foreclosed property.  These situations were not restricted to a single community within our market, but rather to our entire trade area.  Likewise, those who encountered financial difficulties included people of a variety of income brackets, and some were customers with long standing successful track records.  And as a result, we found it necessary to substantially increase our Reserve for Loan Losses, which resulted in a net loss of $1.35 million, the first loss we had incurred since our bank’s opening year in 1988.

In the midst of an abnormal year, however, there were some very bright spots for HCSB.  We did utilize the TARP Capital Purchase Program afforded to us by the U.S. Treasury to bolster our capital position during the first quarter of 2009.  This enabled us to take advantage of a number of excellent opportunities to attract some well-seasoned, prime customer relationships from some of our competitors who were forced to reduce their loan portfolios and turn away customers.  In so doing, we were able to increase our outstanding loans by 14.0% to $484.1 million from 2008, with most of this growth occurring during the first half of 2009.  Total assets also increased during the year to close at $759.6 million, which represents a 17.9% increase from the prior year.

2

Our deposits increased by 19.3% during 2009 to a level of $578.3 million.  According to a report prepared annually by the Federal Deposit Insurance Corporation, as of June 30, 2009, HCSB had risen to No. 3 in market share of deposits held in banks in Horry County, and we had the largest growth in deposits of any bank in the county during the twelve months ended June 30, 2009.  In fact, of the banks with the five largest deposit share ratios in Horry County, only HCSB realized an increase in deposit market share during this period.

Perhaps the most significant claim that we are able to continue to make at HCSB is that our bank still meets the regulatory requirements to be considered a “well-capitalized” bank.  During these depressed economic times in which we are currently experiencing, capital is indeed “King” in the banking industry as it serves as a source of strength for endurance and future growth.

Although we fully expect the year 2010 to largely be a continuation of the economic conditions that prevailed in 2009, we believe we have definite reasons for optimism for HCSB.  We continue to operate in a market that is the most desirable for people who desire to relocate specifically to South Carolina or generally along the Atlantic coast.  Many folks in the Carolinas, Tennessee and Virginia will still make every effort to afford some family vacation time at our beaches because the cost is significantly less than most other vacation attractions.  And, too, we have performed a very in depth review of our expenses and determined that while some reductions may be difficult and unpleasant to initiate, we can and already have made the decisions to get our bank to a much leaner operational position in 2010.

I have no doubt that our significant growth in market share of deposits of late was no accident.  We have a group of outstanding employees, and we are working diligently to provide financial services of the highest quality in our trade area.  With the solid factors of capital and employees on our side, we intend to bounce back and accomplish great things as we go forward.  Our local area has endured previous downturns in the economy in agriculture, tourism and development before, and we always seem to come back stronger than ever.  While this downturn may be more significant than most others, we still have the underlying components to bring us back, and at HCSB we believe we have learned some valuable lessons to better position us in the future.

On behalf of our Board of Directors and employees, I thank you for your continued trust and support, and I encourage you to come “Bank with Me” at HCSB!

Most Respectfully,

James R. Clarkson

President & CEO

3

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Ten Year History

(Dollars in thousands)

Year	Assets		Deposits		Loans (net)		Capital		Earnings
2000	$	143,718	$	123,500	$	90,300	$	9,781	$	1,037
2001	148,651		120,073		116,596		10,895		996
2002	211,598		164,161		161,381		19,850		1,161
2003	269,714		209,931		190,055		21,509		1,568
2004	296,807		222,389		210,649		23,454		2,055
2005	331,662		254,137		232,509		25,303		2,408
2006	359,357		275,151		251,849		28,350		2,805
2007	438,353		340,851		348,671		30,983		2,040
2008	644,347		484,751		424,622		34,450		2,244
2009	759,649		578,292		484,127		45,072		(1,348		)

4

Selected Financial Data

The following table sets forth certain selected financial data concerning the Company.  The selected financial data has been derived from the financial statements.  This information should be read in conjunction with the financial statements of the Company, including the accompanying notes, included elsewhere herein.

Year Ended December 31, (Dollars in thousands, except per share)	2009			2008		2007		2006		2005
Financial Condition:
Investment securities, available for sale	$	169,463		$	166,992	$	49,609	$	50,830	$	38,233
Allowance for loan losses	7,525			4,416		3,535		2,718		2,569
Net loans	484,127			424,622		348,671		251,849		232,509
Premises and equipment, net	24,152			19,056		16,051		16,139		11,681
Total assets	759,649			644,347		438,353		359,537		331,662
Noninterest-bearing deposits	31,661			31,285		32,407		26,428		25,418
Interest-bearing deposits	546,631			453,466		308,444		248,723		228,719
Total deposits	578,292			484,751		340,851		275,151		254,137
Advances from the Federal Home Loan Bank	118,800			92,000		52,300		43,390		43,390
Total liabilities	714,577			609,897		407,370		331,187		306,359
Total shareholders’ equity	45,072			34,450		30,983		28,350		25,303
Results of Operations:
Interest income	$	34,101		$	31,139	$	28,536	$	23,680	$	19,164
Interest expense	15,593			14,537		14,252		11,114		7,456
Net interest income	18,508			16,602		14,284		12,566		11,708
Provision for loan losses	10,361			1,754		985		770		1,070
Net interest income after provision for loan losses	8,147			14,848		13,299		11,796		10,638
Other income	7,563			3,586		2,696		2,604		1,931
Other expense	17,898			15,086		12,903		10,308		8,903
Income before income taxes	(2,188		)	3,410		3,092		4,092		3,666
Income tax expense	(840		)	1,166		1,052		1,287		1,258
Net income	$	(1,348	)	$	2,244	$	2,040	$	2,805	$	2,408
Per Share Data (1):
Net income – basic	$	0.44		$	0.59	$	0.53	$	0.75	$	0.64
Period end book value	$	11.90		$	9.09	$	8.17	$	7.47	$	6.66

(1)Adjusted for 5% stock dividends declared in February 2001, February 2002 and February 2003, and the 7.5% stock dividend declared in January 2004.  Adjustments have also been made for the 3% stock dividends declared in January 2005, January 2006, February 2008 and January 2009, as well as the two-for-one stock split in the form of a 100% stock dividend declared in January 2007.  There was no stock dividend declared in January 2010.

5

Description of Company’s Business

HCSB Financial Corporation (the Company) was incorporated on June 10, 1999 to become a holding company for Horry County State Bank.  The Company’s only significant asset is its wholly owned subsidiary, Horry County State Bank (the Bank).  The Bank is a state-chartered bank incorporated on December 18, 1987 and located at 5201 Broad Street, Loris, South Carolina.  The Company’s primary market includes Horry County in South Carolina and Columbus and Brunswick Counties in North Carolina.  From its 14 branch locations, the Company offers a full range of deposit services, including checking accounts, savings accounts, certificates of deposit, money market accounts, and IRAs, as well as a broad range of non-deposit investment services.

The Company is primarily engaged in the business of attracting deposits from the general public and using these deposits together with other funds to make agricultural, commercial, consumer, and real estate loans.  The Company’s operating results depend to a substantial extent on the difference between interest and fees earned on loans and investments and the Company’s interest expense, consisting principally of interest paid on deposits and borrowings.  Unlike most industrial companies, virtually all of the assets and liabilities of financial institutions are monetary.  As a result, interest rates have a greater effect on the financial institution’s performance.  In addition to competing with other traditional financial institutions, the Company also competes for checking and savings dollars with nontraditional financial intermediaries, such as mutual funds, as well as with investment opportunities available via the internet.  This has resulted in a highly competitive market area.  The Company attempts to compete in this highly competitive market by focusing on providing the highest quality of personal service and attention to its customers.

In 1995, the Company opened its first branch office in the Mt. Olive community of Horry County and has since expanded its branch network to 14 banking offices located throughout Horry County, as well as an Operations Center in Loris, South Carolina which houses the Company’s support services.  This expansion of its branch system has enabled the Company to more effectively compete for deposits and loans.  By expanding into different communities, the Company has been able to substantially diversify its market place from one of a predominantly agricultural flavor to one which blends residential developments of retirees and others, tourism, major employment areas, central county government and the market’s most active overall growth areas.  In so doing, the Company has reduced considerably the seasonality in its loan portfolio.  At the same time the coastal markets have proven to offer primarily commercial real estate lending opportunities, and commercial real estate has been significantly adversely impacted by the current economic recession.

During the year 2009, the Company completed the construction of its permanent branch location in the Ocean Drive section of North Myrtle Beach.  As a result the Company closed its temporary location in The Plaza at Gator Hole and moved into the new facility, which enables the Company to offer drive-up banking services.

Also during the year 2009, the Company completed construction of its new Operations Center in the Loris Commerce Center and moved its executive offices and support services into this building.  The Company plans to market its former Operations Center for sale or lease.

In order to support this growth in its branch network, the Company has undertaken several secondary common stock offerings.  Prior to its reorganization from a bank into the holding company, Horry County State Bank undertook three such secondary offerings of its common stock in efforts to strengthen the Bank’s regulatory capital position to support projected future growth in assets.  Since the reorganization was consummated in 1999, the Company committed to another secondary offering in 2002 whereby the Company issued an additional 365,712 shares of common stock at a price per share of $22.00, resulting in over $8,000,000 in added capital.

In December 2004, the Company participated in the issuance of $6,000,000 of trust preferred securities through its non-consolidated subsidiary HCSB Financial Trust I (the Trust) to enable the company to pursue its growth goals and yet maintain a “well-capitalized” status as defined by banking regulatory agencies.

6

On March 6, 2009, the Company issued 12,985 shares of preferred stock, having $0.01 par value per share and a liquidation preference of $1,000 per share, in connection with the United States Treasury’s Capital Purchase Program.  The dividend rate of 5% per annum will be payable for the first five years, increasing to 9% per annum in 2014.  The Company also issued 91,714 warrants to purchase common stock at a strike price of $21.09 per share.  The warrants expire 10 years from the issue date.  The Company plans to redeem all shares of this series of preferred stock within five years.

Market for Common Share and Dividends

As of December 31, 2009, there were 3,787,170 shares of our common stock outstanding held by approximately 2,400 shareholders of record.  There is currently no established public trading market in our common stock and trading and quotations of our common stock have been limited and sporadic.  Most of the trades of which the Company is aware have been privately negotiated by local buyers and sellers.  In addition to these trades, the Company is aware of a number of trades reported on Yahoo! that occurred on the OTC Bulletin Board between December 31, 2008 and December 31, 2009.  These trades ranged from $11.00 to $15.30.  We have included these trades in the following table.  Because there has not been an established market for our common stock, we may not be aware of all prices at which our common stock has been traded.  We have not determined whether the trades of which we are aware were the result of arm’s-length negotiations between the parties.  Based on information available to us, we believe transactions in our common stock can be fairly summarized as follows for the periods indicated:

2009	Low		High
Fourth Quarter	$	11.00	$	18.00
Third Quarter	$	11.00	$	24.00
Second Quarter	$	11.50	$	25.00
First Quarter	$	13.16	$	27.00

2008
Fourth Quarter	$	23.50	$	27.00
Third Quarter	$	19.00	$	27.00
Second Quarter	$	19.90	$	30.00
First Quarter	$	16.50	$	28.00

All share and per share data in this report has been adjusted to reflect all stock dividends and splits declared by the Company.

No cash dividends have ever been declared or paid by the Company.  However, the Board of Directors approved a 10% stock dividend for each of the five years ended December 31, 1996.  The Company also paid a two-for-one stock split in the form of a 100% stock dividend in 2000, a 5% stock dividend in each of the years 2001, 2002, and 2003, a 7.5% stock dividend in 2004, a 3% stock dividend in 2005, 2006 and 2008, and a two-for-one stock split in the form of a 100% stock dividend in January 2007.  The Company also paid a 3% stock dividend on February 20, 2009 to shareholders of record as of close of business February 6, 2009.  There was no stock dividend declared in January 2010 because the Company is prohibited from declaring any dividends on its common stock until March 6, 2012 without Treasury’s approval unless the 12,985 shares of preferred stock have been repurchased from Treasury.

7

Management does not expect the Company to pay cash dividends in the foreseeable future.  The Company’s ability to pay dividends depends on the ability of its subsidiary, Horry County State Bank, to pay dividends to the Company.  As a South Carolina state bank, the Bank may only pay dividends out of its net profits, after deducting expenses, including losses and bad debts.  In addition, the Bank is prohibited from declaring a dividend on its shares of common stock until its surplus equals its stated capital and until it receives approval from the Federal Deposit Insurance Corporation (the “FDIC”) and the South Carolina Board of Financial Institutions.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION

INTRODUCTION

The following discussion describes our results of operations for 2009 as compared to 2008 and also analyzes our financial condition as of December 31, 2009 as compared to December 31, 2008.  Like most community banks, we derive most of our income from interest we receive on our loans and investments.  Our primary source of funds for making these loans and investments is our deposits, both interest-bearing and noninterest-bearing.  Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits and borrowed funds.  In order to maximize our net interest income, we must not only manage the volume of these balance sheet items, but also the yields that we earn on our interest-earning assets and the rates that we pay on interest-bearing liabilities.

We have included a number of tables to assist in our description of these measures.  For example, the “Average Balances” table shows the average balance during 2009, 2008, and 2007 of each category of our assets and liabilities, as well as the yield we earned or the rate we paid with respect to each category.  A review of this table shows that our loans typically provide higher interest yields than do other types of interest earning assets, which is why we direct a substantial percentage of our earning assets into our loan portfolio.  Similarly, the “Rate/Volume Analysis” table helps demonstrate the impact of changing interest rates and changing volume of assets and liabilities during the years shown.  We also track the sensitivity of our various categories of assets and liabilities to changes in interest rates, and we have included an “Interest Rate Sensitivity Analysis” table to help explain this.  Finally, we have included a number of tables that provide details about our investment securities, our loans, and our deposits and other borrowings.

Of course, there are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible.  We establish and maintain this allowance by charging a provision for loan losses against our operating earnings.  In the Loan Portfolio section we have included a detailed discussion of this process, as well as several tables describing our allowance for loan losses and the allocation of this allowance among our various categories of loans.

In addition to earning interest on our loans and investments, we earn income through fees that we charge to our customers. Likewise, we incur other operating expenses as well.  We describe the various components of this noninterest income, as well as our noninterest expense, in the Other Income and Other Expense section.

8

GENERAL

Markets in the United States and elsewhere have experienced extreme volatility and disruption for more than two years.  These circumstances have exerted significant downward pressure on prices of equity securities and virtually all other asset classes, and have resulted in substantially increased market volatility, severely constrained credit and capital markets, particularly for financial institutions, and an overall loss of investor confidence.  Loan portfolio performances have deteriorated at many institutions resulting from, among other factors, a weak economy and a decline in the value of the collateral supporting their loans.  Dramatic slowdowns in the housing industry with falling home prices and increasing foreclosures and unemployment have created strains on financial institutions.  Across the country many borrowers are now unable to repay their loans, and the collateral securing these loans has, in some cases, declined below the loan balance.  The following discussion and analysis describes our performance in this challenging economic environment.

The Company continued to grow throughout 2009.  Total assets increased by $115,302,000, or 17.89%, and net loans increased by $59,505,000, or 14.01%.  Much of this growth is attributable to the success of our branch network.

Profitability decreased in 2009 by 160.07%, from net earnings of $2,244,000 in 2008 to a net loss of $1,348,000 in 2009, primarily as a result of an increase in provision for loan losses of $8,607,000, or 490.71%.  The growth of the loan portfolio resulted in a loan to deposit ratio of 85.02%.  The Company will need to attract additional deposits, borrow more money, or a combination of the two to continue expansion of the loan portfolio.

The Company is working diligently to improve asset quality and to reduce its investment in commercial real estate loans as a percentage of Tier 1 capital.  The Company is reducing its reliance on brokered CDs and is committed to maintaining its “well capitalized” status.

A more detailed discussion of the factors contributing to growth and challenges is presented below.

RESULTS OF OPERATIONS

The Company experienced an increase of $397,000, or 1.55%, in interest income on loans and related fees for the year ended December 31, 2009.  The Company also experienced an increase in the interest income on taxable securities, which increased $2,855,000 or 57.62%.  This contributed to an increase in total interest income of $2,962,000 or 9.51%, over the course of 2009.  Because of the increase in growth in interest-bearing deposits and other borrowings, total interest expense increased $1,056,000, or 7.26%, to $15,593,000.  This resulted in a $1,906,000, or 11.48%, increase in net interest income in 2009.  The Company also experienced increases in non-interest income and expenses.  Non-interest income increased $3,977,000, or 110.90%, due to gains on sale of available-for-sale securities of $3,663,000.  Non-interest expenses increased $2,812,000, or 18.64%, during 2009 due to the acquisition of additional personnel in our mortgage lending and investment services areas.  Overall, the Company had a net loss for the year ended December 31, 2009 of $1,348,000, compared to net earnings of $2,244,000 for the year ended December 31, 2008.  This represents a decrease in net income of $3,592,000, or 160.07%.  The net loss was driven by the increase in provision for loan losses of $8,607,000, or 490.71%, from $1,754,000 at December 31, 2008 to $10,361,000 at December 31, 2009.

ASSETS, LIABILITIES, AND SHAREHOLDERS’ EQUITY

During the twelve months ended December 31, 2009, total assets increased $115,302,000, or 17.89%, when compared to December 31, 2008.  The primary reason for the increase in total assets was an increase in our loan portfolio of $62,614,000, or 14.59%, during 2009 from $429,038,000 at December 31, 2008.  Total deposits increased $93,541,000, or 19.30%, from the December 31, 2008 amount of $484,751,000.  Interest-bearing deposits increased $93,165,000, or 20.55%, and noninterest-bearing deposits increased $376,000, or 1.20%, during 2009.  The increase in deposits was primarily due to the increase in our money market savings accounts, which increased $58,545,000, or 62.28%, from $94,008,000 at December 31, 2008 to $152,553,000 at December 31, 2009.

9

DISTRIBUTION OF ASSETS, LIABILITIES, AND SHAREHOLDERS’ EQUITY

The Company has sought to maintain a conservative approach in determining the distribution of its assets and liabilities. The following table presents the percentage relationships of significant components of the Company’s average balance sheets for the last three fiscal years.

Balance Sheet Categories as a Percent of Average Total Assets

	2009		2008		2007
Assets:
Interest earning assets:
Federal funds sold	2.55	%	0.88	%	2.83	%
Investment securities	26.69		19.79		13.48
Loans	64.57		72.52		76.86
Total interest earning assets	93.81		93.19		93.17
Cash and due from banks	1.21		1.74		2.00
Allowance for loan losses	(0.78	)	(0.72	)	(0.78	)
Premises and equipment	2.95		3.18		3.84
Other assets	2.81		2.61		1.77
Total assets	100.00	%	100.00	%	100.00	%
Liabilities and shareholders’ equity:
Interest-bearing liabilities:
Interest-bearing deposits	71.51	%	71.17	%	70.08	%
Federal funds purchased	0.07		0.34		0.09
Advances from the Federal Home Loan Bank	14.70		12.27		11.59
Repurchase Agreements	1.44		1.84		0.43
Debt due to trust	0.85		1.17		1.57
Notes Payable	0.15		0.14		0.00
Total interest-bearing liabilities	88.72		86.93		83.76
Noninterest-bearing deposits	4.49		6.26		8.00
Accrued interest and other liabilities	0.67		0.74		0.78
Total liabilities	93.88		93.93		92.54
Shareholders’ equity	6.12		6.07		7.46
Total liabilities and shareholders’ equity	100.00	%	100.00	%	100.00	%

NET INTEREST INCOME

Earnings are dependent to a large degree on net interest income.  Net interest income represents the difference between gross interest earned on earning assets, primarily loans and investment securities, and interest paid on deposits and borrowed funds. Net interest income is affected by the interest rates earned or paid and by volume changes in loans, investment securities, deposits, and borrowed funds.  The interest rate spread and the net yield on earning assets are two significant elements in analyzing the Company’s net interest income.  The interest rate spread is the difference between the yield on average earning assets and the rate on average interest-bearing liabilities.  The net yield on earning assets is computed by dividing net interest income by the average earning assets.

For the year ended December 31, 2009, net interest income was $18,508,000, an increase of $1,906,000, or 11.48%, over net interest income of $16,602,000 in 2008.  Interest income from loans, including fees, was $25,997,000, an increase of $397,000, or 1.55%, from 2008 to 2009 as employment of additional lenders resulted in an increase in loans.  Interest expense for the year ended December 31, 2009 was $15,593,000, compared to $14,537,000 for 2008.

10

This represents an increase of $1,056,000, or 7.26%, compared to the prior year.  The interest rate spread and net yield on earning assets reflected the pressure created by the lower interest rate environment when compared to the previous year as our customers began to invest more of their monies into higher yielding deposit products, such as money market deposit accounts and certificate of deposits, which increased $96,077,000, or 23.87%, throughout 2009.  The net yield realized on earning assets was 2.77% for 2009, compared to 3.35% in 2008.  The interest rate spread was 2.64% and 3.14% in 2009 and 2008, respectively.

The following table sets forth, for the periods indicated, the weighted-average yields earned, the weighted-average yields paid, the interest rate spread, and the net yield on earning assets.  The table also indicates the average daily balance and the interest income or expense by specific categories.

Average Balances, Income and Expenses, and Rates

	2009							2008							2007
Year ended December 31,	Average					Yield/		Average					Yield/		Average					Yield/
(Dollars in thousands)	Balance			Interest		Rate		Balance			Interest		Rate		Balance			Interest		Rate
ASSETS
Loans	$	469,675		$	25,997	5.54	%	$	385,277		$	25,600	6.64	%	$	302,965		$	25,275	8.34	%
Securities, taxable	181,759			7,811		4.30	%	93,538			4,955		5.30	%	42,538			2,212		5.20	%
Securities, nontaxable	6,261			236		3.77	%	7,570			295		3.90	%	7,571			290		3.83	%
Nonmarketable Equity Securities	6,104			32		0.52	%	4,029			177		4.39	%	3,035			173		5.70	%
Fed funds sold and other (incl. FHLB)	18,546			26		0.14	%	4,681			112		2.39	%	11,161			586		5.25	%
Total earning assets	682,345			34,102		5.00	%	495,095			31,139		6.29	%	367,270			28,536		7.77	%
Cash and due from banks	8,810							9,252							7,869
Allowance for loan losses	(5,662		)					(3,810		)					(3,069		)
Premises & equipment	21,466							16,870							15,157
Other assets	20,467							13,867							6,962
Total assets	$	727,426						$	531,274						$	394,189
LIABILITIES AND STOCKHOLDERS’ EQUITY
Transaction accounts	$	520,167		$	11,265	2.17	%	$	378,116		$	11,215	2.97	%	$	276,269		$	11,298	4.09	%
FHLB Advances	125,187			3,961		3.16	%	83,695			3,322		3.97	%	53,925			2,954		5.48	%
Total interest-bearing liabilities	645,354			15,226		2.36	%	461,811			14,537		3.15	%	330,194			14,252		4.32	%
Non-interest deposits	32,675							33,282							31,545
Other liabilities	4,905							3,919							3,060
Stockholders’ equity	44,492							32,262							29,390
Total liabilities & equity	$	727,426						$	531,274						$	394,189
Net interest income/ interest rate spread				18,876		2.64	%				16,602		3.14	%				14,284		3.45	%
Net yield on earning assets						2.77	%						3.35	%						3.89	%

(1)   The effects of loans in nonaccrual status and fees collected are not significant to the computations.

11

RATE/VOLUME ANALYSIS

Net interest income can also be analyzed in terms of the impact of changing rates and changing volume.  The following table describes the extent to which changes in interest rates and changes in the volume of earning assets and interest-bearing liabilities have affected the Company’s interest income and interest expense during the periods indicated. Information on changes in each category attributable to (i) changes due to volume (change in volume multiplied by prior period rate), (ii) changes due to rates (changes in rates multiplied by prior period volume), and (iii) changes in rate and volume (change in rate multiplied by the change in volume) is provided as follows:

	2009 compared to 2008
	Due to increase (decrease) in
(Dollars in thousands)	Rate		Volume		Rate/Volume		Total
Interest income:
Loans	(4,275	)	5,608		(936	)	397
Securities, taxable	(935	)	4,673		(882	)	2,856
Securities, nontaxable	(10	)	(51	)	2		(59	)
Nonmarketable equity securities	(156	)	91		(80	)	(145	)
Fed funds sold and other (incl. FHLB)	(105	)	332		(312	)	(86	)
Total earning assets	(5,481	)	10,653		(2,208	)	2,963
Interest expense:
Interest-bearing deposits	(3,026	)	4,213		(1,137	)	50
Other borrowings	(674	)	1,647		(334	)	639
	(3,700	)	5,860		(1,471	)	689
Net interest income	(1,781	)	4,793		(737	)	2,274

	2008 compared to 2007
	Due to increase (decrease) in
	Rate		Volume		Rate/Volume		Total
Loans	(5,144	)	6,867		(1,398	)	325
Securities, taxable	41		2,652		50		2,743
Securities, nontaxable	5		(0	)	(0	)	5
Time Deposits with other banks	0		0		0		0
Nonmarketable equity securities	(40	)	57		(13	)	4
Fed funds sold and other (incl. FHLB)	(319	)	(340	)	185		(474	)
	(5,457	)	9,235		(1,176	)	2,603
Transaction accounts	(3,104	)	4,165		(1,144	)	(83	)
Other borrowings	(814	)	1,631		(449	)	368
	(3,918	)	5,796		(1,593	)	285
Net interest income	(1,539	)	3,440		417		2,318

(1)  Volume-rate changes have been allocated to each category based on a consistent basis between rate and volume.

12

RATE SENSITIVITY

Interest rates paid on deposits and borrowed funds and interest rates earned on loans and investments have generally followed the fluctuations in market rates in 2009 and 2008.  However, fluctuations in market interest rates do not necessarily have a significant impact on net interest income, depending on the Company’s interest rate sensitivity position. A rate-sensitive asset or liability is one that can be repriced either up or down in interest rate within a certain time interval. When a proper balance exists between rate-sensitive assets and rate-sensitive liabilities, market interest rate fluctuations should not have a significant impact on liquidity and earnings.  The larger the imbalance, the greater the interest rate risk assumed and the greater the positive or negative impact of interest fluctuations on liquidity and earnings.

Interest rate sensitivity management is concerned with the management of both the timing and the magnitude of repricing characteristics of interest-earning assets and interest-bearing liabilities and is an important part of asset/liability management.  The objectives of interest rate sensitivity management are to ensure the adequacy of net interest income and to control the risks to net interest income associated with movements in interest rates.  The following table, “Interest Rate Sensitivity Analysis,” indicates that, on a cumulative basis, after three through twelve months, rate-sensitive liabilities exceeded rate-sensitive assets, resulting in a twelve-month liability sensitive position.  For a bank with a liability-sensitive position, or negative gap, falling interest rates would generally be expected to have a positive effect on net interest income, and rising interest rates would generally be expected to have the opposite effect.  The following table presents the Company’s rate sensitivity at each of the time intervals indicated as of December 31, 2009 and may not be indicative of the Company’s rate-sensitivity position at other points in time:

Interest Rate Sensitivity Analysis

				After One			After Three						Greater
				Through			Through						Than One
December 31, 2009	Within One			Three			Twelve			Within One			Year or
(Dollars in thousands)	Month			Months			Months			Year			Non-Sensitive			Total
Assets
Interest-earning assets
Federal fund sold	$	1,407		$	—		$	—		$	1,407		$	—		$	1,407
Loans	245,333			14,701			70,697			330,731			162,590			493,321
Securities	1,890			7,188			60,113			69,191			106,987			176,178
Total earning assets	248,630			21,889			130,810			401,329			269,577			670,906
Liabilities
Interest-bearing liabilities:
Interest-bearing deposits:
Demand deposits	41,354			—			—			41,354			—			41,354
Savings deposits	159,176			—			—			159,176			—			159,176
Time deposits	46,929			67,235			180,412			294,576			51,525			346,101
Total interest-bearing deposits	247,459			67,235			180,412			495,106			51,525			546,631
Other borrowings	18,031			20,600			10,000			48,631			78,200			126,831
Junior subordinated debentures	—			6,186			—			6,186			—			6,186
Total interest-bearing liabilities	265,490			94,021			190,412			549,923			129,725			679,648
Period gap	$	(16,860	)	$	(72,132	)	$	(59,602	)	$	(148,594	)	$	139,852
Cumulative gap	$	(16,860	)	$	(88,992	)	$	(148,594	)	$	(148,594	)	$	(8,742	)
Ratio of cumulative gap to total earning assets	(2.51		)%	(13.26		)%	(22.15		)%	(22.15		)%	(1.30		)%

13

PROVISION FOR LOAN LOSSES

The provision for loan losses is charged to earnings based upon management’s evaluation of specific loans in its portfolio and general economic conditions and trends in the marketplace.  The 2009 and 2008 provisions for loan losses and their related effect of increasing the allowance for loan losses are related to growth in the loan portfolio.  Please refer to the section “Loan Portfolio” for a discussion of management’s evaluation of the adequacy of the allowances for loan losses. In 2009 and 2008, the provisions for loan losses were $10,361,000 and $1,754,000, respectively.

NONINTEREST INCOME

Noninterest income was $7,563,000 for the year ended December 31, 2009, an increase of $3,977,000, or 110.90%, when compared with the year ended December 31, 2008.  The increase is primarily a result of net gains on sale of securities of $4,102,000 for the year ended December 31, 2009 as compared to $439,000 for the same period in 2008, an increase of $3,663,000, or 834.40%.  Due to the increase in pre-payments of principal on our mortgage-backed securities, management began to realize gains within the portfolio to help improve the profitability of the bank.  This increase in noninterest income is also a result of an increase of $167,000, or 53.35%, in income from cash value of life insurance from $313,000 for the year ended December 31, 2008 to $480,000 for the year ended December 31, 2009.  This increase is due to the Bank’s investment in bank-owned life insurance policies of $600,000 during 2009.  In addition, gains on sale of residential mortgages in the secondary market increased $100,000, 18.73%, from $534,000 for the year ended December 31, 2008 to $634,000 for the year ended December 31, 2009.  This increase is due to additional personnel hired in this area, as well as, the various tax advantages available to the homebuyer during 2009.  Also, brokerage commission fees increased $89,000, or 61.38%, from $145,000 for the year ended December 31, 2008 to $234,000 for the year ended December 31, 2009.  This increase is due to two additional personnel hired in this area.  We also experienced decreases in noninterest income.  We incurred a decrease in service charges on deposit accounts of $90,000, or 5.29%, from $1,700,000 for the year ended 2008 compared to $1,610,000 for the year ended 2009, due to the increase in growth in our money market and certificate of deposits, which generates minimal service charge fee income.

NONINTEREST EXPENSES

Most categories of noninterest expenses increased during 2009 due to continued growth of the Company.  Salaries and employee benefits increased $902,000, or 10.15%, due to the employment of additional personnel in our mortgage lending and investment brokerage services.  Also, FDIC insurance premiums increased $801,000, or 183.72%, from $436,000 for the year ended December 31, 2008 to $1,237,000 for the comparable period in 2009.  Also, other operating expenses increased $578,000, or 21.44%, from $2,696,000 for the year ended December 31, 2008 to $3,274,000 for the year ended December 31, 2009, which was a result of increased legal and repossession expenses relating to our impaired loans.  In addition, losses incurred in the sale of assets increased $186,000 to $171,000 for the period ended December 31, 2009 due to the sale of our repossessions and foreclosed property.  There were also losses experienced on stock in Silverton Bank due to its insolvency of $122,000 during 2009.  There were also increases in net occupancy expense during 2009 of $78,000, or 7.01%, to $1,190,000 for the year ended December 31, 2009 due to the construction of an Operations Center, which became operational in November 2009 and the movement of our Ocean Drive branch from a store front location to a permanent location.

INCOME TAXES

The Company’s income tax benefit for 2009 was $840,000, a decrease of $1,944,000 from the 2008 expense of $1,104,000. The decrease in the expense results from the decrease in income before taxes in 2009 compared to 2008.  The Company’s effective tax rates for the years ended December 31, 2009 and 2008 were 38.39% and 32.97%, respectively.

14

LIQUIDITY

Liquidity is the ability to meet current and future obligations through liquidation or maturity of existing assets or the acquisition of additional liabilities.  The Company manages both assets and liabilities to achieve appropriate levels of liquidity.  Cash and federal funds sold are the Company’s primary sources of asset liquidity.  These funds provide a cushion against short-term fluctuations in cash flow from both deposits and loans.  The investment securities portfolio is the Company’s principal source of secondary asset liquidity.  However, the availability of this source of funds is influenced by market conditions.  Individual and commercial deposits are the Company’s primary source of funds for credit activities.  Although not historically used as principal sources of liquidity, federal funds purchased from correspondent banks and advances from the Federal Home Loan Bank are other options available to management.

As of December 31, 2009, the Company had unused lines of credit to purchase federal funds from unrelated banks totaling $21,000,000.  These lines of credit are available on a one to fourteen day basis for general corporate purposes.  The lenders have reserved the right not to renew their respective lines.  Unpledged securities available-for-sale, which totaled $25,720,000 at December 31, 2009, also serve as a ready source of liquidity. Management believes that the Company’s liquidity sources are adequate to meet its operating needs.  The level of liquidity is measured by the loans-to-total borrowed funds ratio, which was at 69.12% and 71.00% at December 31, 2009 and 2008, respectively.

IMPACT OF OFF-BALANCE-SHEET INSTRUMENTS

The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments consist of commitments to extend credit and standby letters of credit.  Commitments to extend credit are legally binding agreements to lend to a customer at predetermined interest rates as long as there is no violation of any condition established in the contract.  Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.  A commitment involves, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheets.  The Company’s exposure to credit loss in the event of nonperformance by the other party to the instrument is represented by the contractual notional amount of the instrument.  Since certain commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  Letters of credit are conditional commitments issued to guarantee a customer’s performance to a third party and have essentially the same credit risk as other lending facilities.  Standby letters of credit often expire without being used.  Management believes that through various sources of liquidity, the Company has the necessary resources to meet obligations arising from these financial instruments.

The Company uses the same credit underwriting procedures for commitments to extend credit and standby letters of credit as for on-balance-sheet instruments.  The credit worthiness of each borrower is evaluated and the amount of collateral, if deemed necessary, is based on the credit evaluation.  Collateral held for commitments to extend credit and standby letters of credit varies but may include accounts receivable, inventory, property, plant, equipment, and income-producing commercial properties, as well as liquid assets such as time deposit accounts, brokerage accounts, and cash value of life insurance.

The Company is not involved in off-balance-sheet contractual relationships, other than those disclosed in this report, which it believes could result in liquidity needs or other commitments or that could significantly impact earnings.

As of December 31, 2009, commitments to extend credit totaled $53,840,000 and standby letters of credit totaled $1,137,000.

15

The following table sets forth the length of time until maturity for unused commitments to extend credit and standby letters of credit at December 31, 2009.

			After One		After Three
	Within		Through		Through		Within		Greater
	One		Three		Twelve		One		Than
(Dollars in thousands)	Month		Months		Months		Year		One Year		Total
Unused commitments to extend credit	$	1,450	$	5,990	$	24,175	$	31,615	$	22,225	$	53,840
Standby letters of credit	31		55		918		1,004		133		1,137
Totals	$	1,481	$	6,045	$	25,093	$	32,619	$	22,358	$	54,977

The Company entered into interest rate swap agreements associated with Federal Home Loan Bank advances during the third quarter of 2003.  The interest rate swaps effectively converted the fixed interest rates on the advances to a variable rate. The notional amount of advances involved in this transaction totaled $14,600,000.  In May 2009 management decided to unwind the swaps, which produced a gain of $82,000.  Management currently does not utilize swaps to hedge interest rate risk.

IMPACT OF INFLATION AND CHANGING PRICES

The financial statements and related financial data presented herein have been prepared in accordance with generally accepted accounting principles which require the measurement of financial position and operating results in terms of historical dollars without considering changes in relative purchasing power over time due to inflation.  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 a financial institution’s performance than does the effect of inflation.

While the effect of inflation on a bank is normally not as significant as its influence on those businesses that have large investments in plant and inventories, it does have an effect.  Interest rates generally increase as the rate of inflation increases, but the magnitude of the change in rates may not be the same.  While interest rates have traditionally moved with inflation, the effect on income is diminished because both interest earned on assets and interest paid on liabilities vary directly with each other unless the Company is in a high liability sensitive position.  Also, general increases in the price of goods and services will result in increased operating expenses.

16

CAPITAL RESOURCES

The Company uses several indicators of capital strength.  The most commonly used measure is average common equity to average assets, which was 6.12% in 2009 compared to 6.07% in 2008.  The change in this ratio reflects an increase in the Company’s equity as a percentage of assets in 2009 as compared to 2008.

The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies.  Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.  The capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum ratios of Tier 1 and total capital as a percentage of assets and off-balance-sheet exposures, adjusted for risk weights ranging from 0% to 100%.  Tier 1 capital consists of common shareholders’ equity, excluding the unrealized gain or loss on securities available-for-sale, minus certain intangible assets.  Tier 2 capital consists of the allowance for loan losses subject to certain limitations.  Total capital for purposes of computing the capital ratios consists of the sum of Tier 1 and Tier 2 capital.  The regulatory minimum requirements are 4% for Tier 1 and 8% for total risk-based capital.

The Company and the Bank are also required to maintain capital at a minimum level based on quarterly average assets, which is known as the leverage ratio.  Only the strongest banks are allowed to maintain capital at the minimum requirement of 3%.  All others are subject to maintaining ratios 1% to 2% above the minimum.

As of December 31, 2009, the most recent notifications from the Bank’s primary regulator categorized the Bank as “well-capitalized” under the regulatory framework for prompt corrective action.  Due to the impact of the current economic environment on the Bank, we have developed a capital plan through which we intend to retain our “well-capitalized” designation and continue our growth.  Our capital plan outlines how we intend to remain “well-capitalized” by raising additional capital.  We are currently exploring a number of financing alternatives to strengthen the capital levels of the Bank.

17

The Company and the Bank are required to maintain certain risk-based and leverage ratios.  The Company and the Bank exceeded these regulatory capital ratios at December 31, 2009, 2008, and 2007 as set forth in the following tables.

December 31, (Dollars in thousands)	2009			2008			2007
The Company
Tier 1 capital	$	50,514		$	39,352		$	36,989
Tier 2 capital	6,658			4,416			3,534
Total qualifying capital	$	57,172		$	43,768		$	40,523
Risk-adjusted total assets
(including off-balance-sheet exposures)	$	531,759		$	458,154		$	361,051
Tier 1 risk-based capital ratio	9.50		%	8.59		%	10.24		%
Total risk-based capital ratio	10.75		%	9.55		%	11.22		%
Tier 1 leverage ratio	6.94		%	7.41		%	9.38		%
The Bank
Tier 1 capital	$	49,959		$	42,714		$	36,100
Tier 2 capital	6,658			4,416			3,534
Total qualifying capital	$	56,617		$	47,130		$	39,634
Risk-adjusted total assets
(including off-balance-sheet exposures)	$	531,795		$	457,174		$	360,346
Tier 1 risk-based capital ratio	9.39		%	9.35		%	10.02		%
Total risk-based capital ratio	10.65		%	10.31		%	11.00		%
Tier 1 leverage ratio	6.47		%	6.86		%	8.55		%

The Company did not pay cash dividends to shareholders during 2009 and the Company is prohibited from declaring any dividends on its common stock until March 6, 2012 with Treasury’s approval unless the 12,985 shares of preferred stock have been repurchased from Treasury.

INVESTMENT PORTFOLIO

Management classifies investment securities as either held-to-maturity or available-for-sale based on their intentions and the Company’s ability to hold them until maturity.  In determining such classifications, securities that management has the positive intent and the Company has the ability to hold until maturity are classified as held-to-maturity and carried at amortized cost.  All other securities are designated as available-for-sale and carried at estimated fair value with unrealized gains and losses included in shareholders’ equity on an after-tax basis.  As of December 31, 2009 and 2008, all securities were classified as available-for-sale.

During 2009 management began to grow the investment portfolio as a means to help build liquidity and capital.  As principal paydowns in our mortgage-backed securities increased, management decided to realize gains within the securities portfolio.  There were $4,102,000 of gains realized in noninterest income for the Company as of December 31, 2009.

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The following tables summarize the carrying value of investment securities as of the indicated dates and the weighted-average yields of those securities at December 31, 2009.

Investment Securities Portfolio Composition

December 31, (Dollars in thousands)	2009		2008		2007
Government-Sponsored Enterprises	$	27,511	$	19,316	$	20,447
Obligations of state and local governments	5,697		7,668		7,730
Mortgage-backed securities	136,255		140,008		21,432
Nonmarketable equity securities	6,715		5,261		3,327
Total securities	$	176,178	$	172,253	$	52,936

Investment Securities Portfolio Maturity Schedule

	Available-for-Sale
December 31, 2009	Carrying
(Dollars in thousands)	Amount		Yield
Government-Sponsored Enterprises due:
After one year but within five years	2,978		2.84	%
After five years but within ten years	10,100		4.77	%
After ten years	14,433		5.06	%
Obligations of states and local government due:
One year or less	300		3.23	%
After one year but within five years	2,112		3.59	%
After five years but within ten years	2,649		3.62	%
After ten years	636		4.34	%
	5,697		3.67	%
Mortgage-backed securities	78,228		3.76	%
Collateralized Mortgage Obligation (CMOs)	58,027		4.83	%
Nonmarketable equity securities	6,715
	$	176,178	4.28	%

LOAN PORTFOLIO

The Company has experienced continued growth of its loan portfolio throughout 2009 and 2008, resulting in increases of $62,614,000 and $76,832,000, respectively.  Management has concentrated on seeking to maintain quality in the loan portfolio. The loan-to-deposit ratio is used to monitor a financial institution’s potential profitability and efficiency of asset distribution and utilization.  Generally, a higher loan-to-deposit ratio is indicative of higher interest income since loans typically yield a higher return than other interest-earning assets.  The loan-to-deposit ratios were 85.02% and 88.51% at December 31, 2009 and 2008, respectively.  The Company wanted to

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improve its liquidity position by investing more in its securities portfolio, which not only provides cash flow but also improves our capital position.  The loans-to-total borrowed funds ratio was 69.12% and 71.00% at December 31, 2009 and 2008, respectively.  Management intends to deploy available funds to loans to the extent it deems prudent to achieve its targeted ratio of loans to deposits; however, there can be no assurance that management will be able to execute its strategy or that loan demand will continue to support growth.

The following table sets forth the composition of the loan portfolio by category for the five years ended December 31, 2009 and highlights the Company’s general emphasis on mortgage lending.

December 31,	Loan Portfolio Composition
(Dollars in thousands)	2009		2008		2007		2006		2005
Real estate - construction and land development	$	95,788	$	60,643	$	59,084	$	28,124	$	18,686
Real estate - mortgage and commercial	305,561		253,450		201,448		147,156		133,527
Agricultural	10,338		7,613		7,221		6,099		5,141
Commercial and industrial	60,914		84,568		64,019		54,313		55,909
Consumer	15,871		19,655		18,535		18,267		21,168
All other loans (including overdrafts)	3,180		3,109		1,899		608		647
Total gross loans	$	491,652	$	429,038	$	352,206	$	254,567	$	235,078

The primary component of our loan portfolio is loans collateralized by real estate, which made up approximately 62.3% of our loan portfolio at December 31, 2009.  These loans are secured generally by first or second mortgages on residential, agricultural or commercial property.  These loans consist of commercial real estate loans, which as of December 31, 2009 totaled $251,617,000, or 62.44% of our real estate loans.  We anticipate decreasing our amount of commercial real estate loans in 2010.  There are no foreign loans, and agricultural loans, as of December 31, 2009, are limited.  There are no significant concentrations of loans in any particular individuals or industry or group of related individuals or industries.

Credit Risk Management

Credit risk entails both general risk, which is inherent in the process of lending, and risk that is specific to individual borrowers.  The management of credit risk involves the processes of loan underwriting and loan administration.  The Company seeks to manage credit risk through a strategy of making loans within the Company’s primary marketplace and within the Company’s limits of expertise.  Although management seeks to avoid concentrations of credit by loan type or industry through diversification, a substantial portion of the borrowers’ ability to honor the terms of their loans is dependent on the business and economic conditions in Horry County in South Carolina and Columbus and Brunswick Counties in North Carolina.  A continuation of the economic downturn or prolonged recession could result in the deterioration of the quality of our loan portfolio and reduce our level of deposits, which in turn would have a negative impact on our business.  Additionally, since real estate is considered by the Company as the most desirable nonmonetary collateral, a significant portion of the Company’s loans are collateralized by real estate; however, the cash flow of the borrower or the business enterprise is generally considered as the primary source of repayment.  Generally, the value of real estate is not considered by the Company as the primary source of repayment for performing loans.  The Company also seeks to limit total exposure to individual and affiliated borrowers.  The Company seeks to manage risk specific to individual borrowers through the loan underwriting process and through an ongoing analysis of the borrower’s ability to service the debt as well as the value of the pledged collateral.

The Company’s loan officers and loan administration staff are charged with monitoring the Company’s loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay the

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debt or the value of the pledged collateral.  In order to assess and monitor the degree of risk in the Company’s loan portfolio, several credit risk identification and monitoring processes are utilized.  The Company assesses credit risk initially through the assignment of a risk grade to each loan based upon an assessment of the borrower’s financial capacity to service the debt and the presence and value of any collateral.

Credit grading is adjusted during the life of the loan to reflect economic and individual changes having an impact on the borrowers’ abilities to honor the terms of their commitments.  Management uses the risk grades as a tool for identifying known and inherent losses in the loan portfolio and for determining the adequacy of the allowance for loan losses.

Maturities and Sensitivity of Loans to Changes in Interest Rates:

The following table summarizes the loan maturity distribution, by type, at December 31, 2009 and related interest rate characteristics:

			Over
			One Year
December 31, 2009	One Year		Through		Over Five
(Dollars in thousands)	or Less		Five Years		Years		Total
Real estate - construction and land development	$	72,977	$	21,541	$	1,270	$	95,788
Real estate - other	128,112		147,210		30,239		305,561
Agricultural	1,649		4,583		4,106		10,338
Commercial and industrial	44,066		16,098		750		60,914
Consumer	5,425		10,137		309		15,871
All other loans (including overdrafts)	2,937		243		—		3,180
	$	255,166	$	199,812	$	36,674	$	491,652
Loans maturing after one year with:
Fixed interest rates							$	159,889
Floating interest rates							74,292
							$	234,181

Risk Elements

Loans are defined as impaired when it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement.  Impairment of a loan is based on the present value of the expected future cash flows discounted at the loan’s effective interest rate or at the fair value of the collateral if the loan is collateral dependent.

Loans on the Company’s problem loan watch list are considered potentially impaired loans.  These loans are evaluated in determining whether all outstanding principal and interest are expected to be collected.  Loans are not considered impaired if a minimal delay occurs and all amounts due, including accrued interest at the contractual interest rate for the period of delay, are expected to be collected.

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The following table sets forth our nonperforming assets for the dates indicated.

Nonperforming Assets
(Dollars in thousands)	2009			2008			2007			2006			2005
Nonaccrual loans (includes impaired loans)	$	23,138		$	9,040		$	2,696		$	760		$	2,044
Total nonperforming loans	23,138			9,040			2,696			760			2,044
Other real estate owned	6,432			2,965			338			95			485
Total nonperforming assets	$	29,570		$	12,005		$	3,034		$	855		$	2,529
Loans 90 days or more past due and still accruing interest	—			—			—			$	1,714		843
Nonperforming assets to period end loans	6.01		%	2.80		%	0.86		%	0.33		%	1.08		%

For loans to be in excess of 90 days delinquent and still accruing interest, the borrowers must be either remitting payments although not able to get current, liquidation on loans deemed to be well secured must be near completion, or the Company must have a reason to believe that correction of the delinquency status by the borrower is near.  The amount of both nonaccrual loans and loans past due 90 days or more were considered in computing the allowance for loan losses as of December 31, 2009.  Generally, the Company places loans which are in excess of 90 days delinquent on nonaccrual status.  If the borrower is able to bring the account current, the loan is then placed back on regular accrual status.

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Summary of Loan Loss Experience

(Dollars in thousands)	2009			2008			2007			2006			2005
Total loans outstanding at end of period	$	491,652		$	429,038		$	354,214		$	256,800		$	235,669
Average loans outstanding	$	469,675		$	385,277		$	302,965		$	247,614		$	226,528
Balance of allowance for loan losses at beginning of period	$	4,416		$	3,535		$	2,718		$	2,569		$	2,155
Charge-offs:
Real estate	8,056			385			—			4			122
Commercial	1,448			550			54			418			382
Consumer and credit card	248			294			165			289			287
Other Loans	56			23			—			—			—
Total charge-offs	9,808			1,252			219			711			791
Recoveries of loans previous charge-off	2,556			379			51			90			135
Net charge-offs	7,252			873			168			621			656
Provision charged to operations	10,361			1,754			985			770			1,070
Balance of allowance for loan losses at end of period	$	7,525		$	4,416		$	3,535		$	2,718		$	2,569
Ratios:
Net charge-offs to average loans outstanding	1.54		%	0.23		%	0.06		%	0.25		%	0.29		%
Net charge-offs to loans at end of year	1.48		%	0.20		%	0.05		%	0.24		%	0.28		%
Allowance for loan losses to average loans	1.60		%	1.15		%	1.17		%	1.10		%	1.13		%
Allowance for loan losses to loans at end of year	1.53		%	1.03		%	1.00		%	1.06		%	1.09		%
Net charge-offs to allowance for loan losses	96.37		%	19.77		%	4.75		%	22.85		%	25.54		%
Net charge-offs to provisions for loan losses	69.99		%	49.77		%	17.06		%	80.65		%	61.31		%

Management has established an allowance for loan losses through a provision for loan losses charged to expense on our statements of income.  The allowance represents an amount which management believes will be adequate to absorb probable losses on existing loans that may become uncollectible.  Management does not allocate specific percentages of our allowance for loan losses to the various categories of loans but evaluates the adequacy on an overall portfolio basis utilizing several factors.  The primary factor considered is the credit risk grading system, which is applied to each loan.  The amount of both nonaccrual loans and loans past due 90 days or more is also considered.  The historical loan loss experience, the size of our lending portfolio, changes in the lending policies and

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procedures, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, concentrations of credit, and peer group comparisons, and current and anticipated economic conditions are also considered in determining the provision for loan losses. The amount of the allowance is adjusted periodically based on changing circumstances.  Recognized losses are charged to the allowance for loan losses, while subsequent recoveries are added to the allowance.

Management regularly monitors past due and classified loans.  However, it should be noted that no assurances can be made that future charges to the allowance for loan losses or provisions for loan losses may not be significant to a particular accounting period.  At December 31, 2009 and 2008, management considered the allowances for loan losses adequate based on its judgments, evaluations, and analysis of the loan portfolio.

Management’s judgment as to the adequacy of the allowance is based upon a number of assumptions about future events which it believes to be reasonable, but which may or may not prove to be accurate.  Because of the inherent uncertainty of assumptions made during the evaluation process, there can be no assurance that loan losses in future periods will not exceed the allowance for loan losses or that additional allocations will not be required.  Our losses will undoubtedly vary from our estimates, and there is a possibility that charge-offs in future periods will exceed the allowance for loan losses as estimated at any point in time.

At December 31, 2009, the nonperforming assets to period end loans increased to 6.01% from 2.80% and 0.86% at December 31, 2008 and 2007, respectively.  The increase in nonperforming assets have warranted an increase in the allowance for loan losses as a percentage of period ending loans of 1.53% at December 31, 2009 compared with 1.15% at December 31, 2008.  As of December 31, 2009 and 2008, the Company had nonaccrual loans of approximately $23,138,000 and $9,040,000, respectively.  These loans comprise a substantial majority of loans classified as impaired.  A significant portion, or 96.18%, of nonperforming loans at December 31, 2009 were secured by real estate.  Our real estate loans consist of commercial real estate loans, which as of December 31, 2009 constituted 78.26% of our nonperforming loans.  We have evaluated the underlying collateral on these loans and believe that the collateral on these loans is sufficient to minimize future losses.  However, the recent downturn in the real estate market has resulted in increased loan delinquencies, defaults and foreclosures, and we believe that these trends are likely to continue.  In some cases, this downturn has resulted in a significant impairment to the value of the collateral used to secure these loans and the ability to sell the collateral upon foreclosure.  These conditions have adversely affected our loan portfolio.  The real estate collateral in each case provides an alternate source of repayment in the event of default by the borrower and may deteriorate in value during the time the credit is extended.  If real estate values continue to decline, it is also more likely that we would be required to increase our allowance for loan losses.  If during a period of reduced real estate values we are required to liquidate the property collateralizing a loan to satisfy the debt or to increase the allowance for loan losses, this could materially reduce our profitability and adversely affect our financial condition.

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AVERAGE DAILY DEPOSITS

The following table summarizes the Company’s average daily deposits during the years ended December 31, 2009, 2008, and 2007.  These totals include time deposits $100,000 and over, which at December 31, 2009 totaled $115,762,000.  Of this total, scheduled maturities within three months were $22,010,000; over three through twelve months were $75,515,000; and over twelve months were $18,237,000.

The adverse economic environment has also placed greater pressure on our deposits, and we have taken steps to decrease our reliance on brokered deposits, while at the same time the competition for local deposits among banks in our market has been increasing.  We generally obtain out-of-market time deposits of $100,000 or more through brokers with whom we maintain ongoing relationships.  As of December 31, 2009, we had brokered deposits of $104 million, representing 18% of our total deposits as compared to $122 million, representing 25.2% of our total deposits as of December 31, 2008.

	2009				2008				2007
			Average				Average				Average
	Average		Rate		Average		Rate		Average		Rate
	Amount		Paid		Amount		Paid		Amount		Paid
Noninterest-bearing demand	$	32,675	0.00	%	$	33,282	0.00	%	$	31,545	0.00	%
Interest-bearing transaction accounts	41,533		0.23		46,376		0.56		47,171		1.19
Money market savings account	125,770		2.02		93,125		2.19		102,532		4.54
Other savings accounts	6,568		2.34		5,602		1.34		5,402		1.22
Time deposits	346,296		2.48		233,013		3.79		121,164		4.94
Total deposits	$	552,842			$	411,398			$	307,814

ADVANCES FROM THE FEDERAL HOME LOAN BANK

The following table summarizes the Company’s short-term borrowings for the years ended December 31, 2009, 2008 and 2007.

	Maximum				Weighted
	Outstanding				Average
	at any		Average		Interest		Balance
(Dollars in thousands)	Month End		Balance		Rate		December 31
2009
Advances from Federal Home Loan Bank	$	118,800	$	106,946	3.33	%	$	118,800
2008
Advances from Federal Home Loan Bank	$	92,500	$	65,195	3.37	%	$	92,000
2007
Advances from Federal Home Loan Bank	$	52,300	$	45,674	4.46	%	$	52,300

Advances from the Federal Home Loan Bank are collateralized by one-to-four family residential mortgage loans, certain commercial real estate loans, certain securities in the Bank’s investment portfolio and the Company’s investment in Federal Home Loan Bank stock.  Although we expect to continue using Federal Home Loan Bank advances as a secondary funding source, core deposits will continue to be our primary funding source.  Of the $118,800,000 advances from Federal Home Loan Bank outstanding at December 31, 2009, $14,600,000 have scheduled principal reductions in 2010, $5,500,000 in 2011, $17,500,000 in 2012 and the remainder after five years.

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As discussed in the notes to the financial statements, the Company entered into interest rate swap agreements associated with Federal Home Loan Bank advances maturing on March 1, 2010, May 24, 2010 and March 22, 2011.  The interest rate swaps effectively converted the fixed interest rates on the advances to a variable rate.  In May 2009, management decided to terminate the interest rate swaps on these FHLB advances.  The unwinding of these swaps resulted in a gain of $82,000.

JUNIOR SUBORDINATED DEBENTURES

On December 21, 2004, HCSB Financial Trust I (the “Trust”), a non-consolidated subsidiary of the Company, issued and sold a total of 6,000 trust preferred securities, with $1,000 liquidation amount per capital security (the “Capital Securities”), to institutional buyers in a pooled trust preferred issue.  The Capital Securities, which are reported on the consolidated balance sheet as junior subordinated debentures, generated proceeds of $6 million.  The Trust loaned these proceeds to the Company to use for general corporate purposes.  The junior subordinated debentures qualify as Tier 1 capital under Federal Reserve Board guidelines, subject to limitations.  See Note 11 to the consolidated financial statements for more information about the terms of the junior subordinated debentures.

Debt issuance costs, net of accumulated amortization, from junior subordinated debentures totaled $91,361 and $95,028 at December 31, 2009 and 2008, respectively, and are included in other assets on the consolidated balance sheet.  Amortization of debt issuance costs from junior subordinated debentures totaled $3,667 for the years ended December 31, 2009, and December 31, 2008, and are reported in other expenses on the consolidated income statement for the years ended December 31, 2009, and December 31, 2008.

RETURN ON EQUITY AND ASSETS

The following table shows the return on average assets (net income divided by average total assets), return on average equity (net income divided by average daily equity), and equity to assets ratio (average daily equity divided by average total assets) for the period indicated.  Since its inception, the Company has not paid cash dividends.

	2009		2008		2007
Return on average assets	(0.19	)%	0.42	%	0.52	%
Return on average equity	(3.03	)%	6.96	%	6.94	%
Equity to assets ratio	6.12	%	6.07	%	7.46	%

ACCOUNTING AND FINANCIAL REPORTING ISSUES

We have adopted various accounting policies, which govern the application of accounting principles generally accepted in the United States in the preparation of our financial statements.  Our significant accounting policies are described in the footnotes to the consolidated financial statements at December 31, 2009, as filed on our annual report on Form 10-K. Certain accounting policies involve significant judgments and assumptions by us which have a material impact on the carrying value of certain assets and liabilities.  We consider these accounting policies to be critical accounting policies. The judgments and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances.  Because of the nature of the judgments and assumptions we make, actual results could differ from these judgments and estimates which could have a material impact on our carrying values of assets and liabilities and our results of operations.

We believe the allowance for loan losses is a critical accounting policy that requires the most significant judgments and estimates used in preparation of our consolidated financial statements.  Refer to the portion of this discussion that addresses our allowance for loan losses for a description of our processes and methodology for determining our allowance for loan losses.

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INDUSTRY DEVELOPMENTS

Sarbanes-Oxley Act of 2002

The Congress of the United States of America passed the Sarbanes-Oxley Act in 2002 in the aftermath of corporate scandals among several major publicly traded corporations.  The intent of the Act was to legislate corporate governance and better ascertain the accuracy of financial reporting by companies regulated by the Securities and Exchange Commission.

Section 404 of the Sarbanes-Oxley Act, which became effective for the Company in 2008, requires that the Company adopt and maintain effective internal controls that will, among other things, permit the preparation of financial statements in conformity with accounting principles generally accepted in the United States of America.

Management of the Company has the responsibility to adopt sound accounting policies, maintain an adequate and efficient accounting system, safeguard assets and devise policies to ensure that the Company complies with applicable laws and regulations.

From time to time, various bills are introduced in the United States Congress with respect to the regulation of financial institutions.  Certain of these proposals, if adopted, could significantly change the regulation of banks and the financial services industry.  The Company cannot predict whether any of these proposals will be adopted or, if adopted, how these proposals would affect the Company.

Recent Legislative and Regulatory Initiatives to Address Financial and Economic Crises

The Congress, Treasury Department and the federal banking regulators, including the FDIC, have taken broad action since early September 2008 to address volatility in the U.S. banking system.

In October 2008, the Emergency Economic Stabilization Act of 2008 (“EESA”) was enacted. The EESA authorizes the Treasury Department to purchase from financial institutions and their holding companies up to $700 billion in mortgage loans, mortgage-related securities and certain other financial instruments, including debt and equity securities issued by financial institutions and their holding companies in a troubled asset relief program (“TARP”).  The purpose of TARP is to restore confidence and stability to the U.S. banking system and to encourage financial institutions to increase their lending to customers and to each other.  The Treasury Department has allocated $250 billion towards the TARP Capital Purchase Program (“CPP”).  Under the CPP, Treasury will purchase debt or equity securities from participating institutions.  The TARP also will include direct purchases or guarantees of troubled assets of financial institutions. Participants in the CPP are subject to executive compensation limits and are encouraged to expand their lending and mortgage loan modifications.

On March 6, 2009, as part of the TARP CPP, the Company entered into a Letter Agreement and Securities Purchase Agreement (collectively, the “CPP Purchase Agreement”) with the Treasury Department, pursuant to which the Company sold (i) 12,895 shares of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series T (the “Series T Preferred Stock”) and (ii) a warrant (the “CPP Warrant”) to purchase 91,714 shares of the Company’s common stock for an aggregate purchase price of $12,895,000 in cash.

The Series T Preferred Stock will qualify as Tier 1 capital and will be entitled to cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter.  The Company must consult with the FDIC before it may redeem the Series T Preferred Stock but, contrary to the original restrictions in the EESA, will not necessarily be required to raise additional equity capital in order to redeem this stock.  The Warrant has a 10-year term and is immediately exercisable upon its issuance, with an exercise price, subject to anti-dilution adjustments, equal to $21.09 per share of the common stock. Please see the Form 8-K we filed with the SEC on March 6, 2009, for additional information about the Series T Preferred Stock and the Warrant.

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Pursuant to the terms of the certificate of designations creating the Series T Preferred Stock, we may only redeem the Series T Preferred Stock at par after May 15, 2012. Prior to this date, we may redeem the Series T Preferred Stock at par if (i) we have raised aggregate gross proceeds in one or more Qualified Equity Offerings (as defined in the Purchase Agreement) in excess of approximately $3.2 million, and (ii) the aggregate redemption price does not exceed the aggregate net proceeds from such Qualified Equity Offerings. Any redemption is subject to the consent of the Board of Governors of the Federal Reserve System.  However, pursuant to the terms of American Recovery and Reinvestment Act (the “Recovery Act”) which modified EESA, we may, upon consultation with our primary federal regulator, repay the amount received for the Series T Preferred Stock at any time, without regard to whether we have replaced such funds from any source or to any waiting period. Upon repayment of the amount received for the Series T Preferred Stock, the Treasury Department will also liquidate the associated Warrant in accordance with the Recovery Act and any rules and regulations thereunder.

EESA also increased FDIC deposit insurance on most accounts from $100,000 to $250,000.  This increase is in place until the end of 2013 and is not covered by deposit insurance premiums paid by the banking industry.

On October 14, 2008, the FDIC established the Temporary Liquidity Guarantee Program (“TLGP”).  TLGP includes the Transaction Account Guarantee Program (“TAGP”), which provides unlimited deposit insurance coverage through June 30, 2010 for noninterest-bearing transaction accounts (typically business checking accounts) and certain funds swept into noninterest-bearing savings accounts.  Institutions participating in TLGP pay a 10 basis points fee (annualized) on the balance of each covered account in excess of $250,000, while the extra deposit insurance is in place.  TLGP also includes the Debt Guarantee Program (“DGP”), under which the FDIC guarantees certain newly-issued senior unsecured debt.  The guarantee applied to new debt issued on or before October 31, 2009 and provides protection until December 31, 2012.  Participants in DGP pay a 75 basis point fee for the guarantee.  TAGP and DGP are in effect for all eligible entities, unless the entity opted out on or before December 5, 2008.  We are participating in the TAGP and opted out of the DGP.

On February 10, 2009, Treasury announced the Financial Stability Plan, which earmarked $350 billion of the TARP funds authorized under EESA. Among other things, the Financial Stability Plan includes:

·A capital assistance program that invested in mandatory convertible preferred stock of certain qualifying institutions determined on a basis and through a process similar to the CPP;

·A consumer and business lending initiative to fund new consumer loans, small business loans and commercial mortgage asset-backed securities issuances;

·A public-private investment fund program that is intended to leverage public and private capital with public financing to purchase up to $500 billion to $1 trillion of legacy “toxic assets” from financial institutions; and

·Assistance for homeowners by providing up to $75 billion to reduce mortgage payments and interest rates and establishing loan modification guidelines for government and private programs.

On February 17, 2009, the Recovery Act was signed into law in an effort to, among other things, create jobs and stimulate growth in the United States economy.  The Recovery Act specifies appropriations of approximately $787 billion for a wide range of Federal programs and will increase or extend certain benefits payable under the Medicaid, unemployment compensation, and nutrition assistance programs.  The Recovery Act also reduces individual and corporate income tax collections and makes a variety of other changes to tax laws.  The Recovery Act also imposes certain limitations on compensation paid by participants in TARP.

On March 23, 2009, Treasury, in conjunction with the FDIC and the Federal Reserve, announced the Public-Private Partnership Investment Program for Legacy Assets which consists of two separate plans, addressing two distinct asset groups:

28

·The first plan is the Legacy Loan Program, which has a primary purpose to facilitate the sale of troubled mortgage loans by eligible institutions, including FDIC-insured federal or state banks and savings associations. Eligible assets are not strictly limited to loans; however, what constitutes an eligible asset will be determined by participating banks, their primary regulators, the FDIC and the Treasury. Under the Legacy Loan Program, the FDIC has sold certain troubled assets out of an FDIC receivership in two separate transactions relating to the failed Illinois bank, Corus Bank, NA, and the failed Texas bank, Franklin Bank, S.S.B. These transactions were completed in September 2009 and October 2009, respectively.

·The second plan is the Securities Program, which is administered by the Treasury and involves the creation of public-private investment funds to target investments in eligible residential mortgage-backed securities and commercial mortgage-backed securities issued before 2009 that originally were rated AAA or the equivalent by two or more nationally recognized statistical rating organizations, without regard to rating enhancements (collectively, “Legacy Securities”). Legacy Securities must be directly secured by actual mortgage loans, leases or other assets, and may be purchased only from financial institutions that meet TARP eligibility requirements. Treasury received over 100 unique applications to participate in the Legacy Securities PPIP and in July 2009 selected nine public-private investment fund managers.  As of December 31, 2009, public-private investment funds have completed initial and subsequent closings on approximately $6.2 billion of private sector equity capital, which was matched 100% by Treasury, representing $12.4 billion of total equity capital. Treasury has also provided $12.4 billion of debt capital, representing $24.8 billion of total purchasing power. As of December 31, 2009, public-private investment funds have drawn-down approximately $4.3 billion of total capital which has been invested in certain non-agency residential mortgage backed securities and commercial mortgage backed securities and cash equivalents pending investment.

Insurance of Accounts and Regulation by the FDIC

Our deposits are insured up to applicable limits by the Deposit Insurance Fund of the FDIC.  The Deposit Insurance Fund is the successor to the Bank Insurance Fund and the Savings Association Insurance Fund, which were merged effective March 31, 2006.  As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC insured institutions.  It also may prohibit any FDIC insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the insurance fund.  The FDIC also has the authority to initiate enforcement actions against savings institutions, after giving the Office of Thrift Supervision an opportunity to take such action, and may terminate the deposit insurance if it determines that the institution has engaged in unsafe or unsound practices or is in an unsafe or unsound condition.

Under regulations effective January 1, 2007, the FDIC adopted a new risk-based premium system that provides for quarterly assessments based on an insured institution’s ranking in one of four risk categories based upon supervisory and capital evaluations.  Institutions are assessed at annual rates ranging from 5 to 43 basis points, respectively, depending on each institution’s risk of default as measured by regulatory capital ratios and other supervisory measures.  In May 2009, the FDIC issued a final rule which levied a special assessment applicable to all insured depository institutions totaling 5 basis points of each institution’s total assets less Tier 1 capital as of June 30, 2009, not to exceed 10 basis points of domestic deposits.  This special assessment was part of the FDIC’s efforts to rebuild the Deposit Insurance Fund.  We paid this one-time special assessment in the amount of $326,158 to the FDIC at the end of the third quarter 2009.

In November 2009, the FDIC issued a rule that required all insured depository institutions, with limited exceptions, to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012.  The FDIC also adopted a uniform three-basis point increase in assessment rates effective on January 1, 2011.  In December 2009, we paid $ 3,746,273 in prepaid risk-based assessments, which included $238,939 related to the fourth quarter of 2009 that would have been otherwise payable in the first quarter of 2010.

29

This amount is included in deposit insurance expense for 2009.  The remaining $3,507,334 in prepaid deposit insurance is included in prepaid expenses in our other assets category for 2009.  As a result, we incurred increased insurance costs during 2009 than in previous periods.

FDIC insured institutions are required to pay a Financing Corporation assessment, in order to fund the interest on bonds issued to resolve thrift failures in the 1980s.  For the quarterly period ended December 31, 2008, the Financing Corporation assessment equaled 1.61 basis points for each $100 in domestic deposits.    These assessments, which may be revised based upon the level of deposits, will continue until the bonds mature in the years 2017 through 2019.

The FDIC may terminate the deposit insurance of any insured depository institution, including the bank, if it determines after a hearing that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC or the OCC.  It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital.  If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC.  Management of the bank is not aware of any practice, condition or violation that might lead to termination of the bank’s deposit insurance.

MANAGEMENT’S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

Management of HCSB Financial Corporation and its subsidiary Horry County State Bank is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system was designed to provide reasonable assurance to management and the Board of Directors regarding the preparation and fair presentation of published financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

The Company’s management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2009. Based on this assessment management believes that as of December 31, 2009, the Company’s internal control over financial reporting was effective.  Management based this assessment on criteria for effective internal control over financial reporting described in “Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.”  Management’s assessment included an evaluation of the design of our internal control over financial reporting and testing of the operational effectiveness of its internal control over financial reporting.  Management reviewed the results of its assessment with the Audit Committee of the Board of Directors.  Based on this assessment, management believes that HCSB Financial Corporation maintained effective internal control over financial reporting as of December 31, 2009.

This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this annual report.

30

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors

HCSB Financial Corporation and Subsidiary

Loris, South Carolina

We have audited the accompanying consolidated balance sheets of HCSB Financial Corporation and its subsidiary as of December 31, 2009 and 2008, and the related consolidated statements of operations, changes in shareholders’ equity and comprehensive income, and cash flows for the years then ended.  These consolidated financial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and the significant estimates made by management as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of HCSB Financial Corporation and its subsidiary as of December 31, 2009 and 2008, and the results of their operations and their cash flows for the years then ended, in conformity with U. S. generally accepted accounting principles.

We were not engaged to examine management’s assertion of the effectiveness of HCSB Financial Corporation’s internal control over financial reporting as of December 31, 2009, included in Management’s Annual Report on Internal Control over Financial Reporting and, accordingly, we do not express an opinion thereon.

/s/ Elliott Davis, LLC

Elliott Davis, LLC

Columbia, South Carolina

March 10, 2010

31

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Consolidated Balance Sheets

	December 31,
(Dollars in thousands except share amounts)	2009			2008
Assets:
Cash and cash equivalents:
Cash and due from banks	$	44,902		$	10,423
Federal funds sold	1,407			—
Total cash and cash equivalents	46,309			10,423
Investment securities:
Securities available-for-sale	169,463			166,992
Nonmarketable equity securities	6,715			5,261
Total investment securities	176,178			172,253
Loans held for sale	1,669			70
Loans receivable	491,652			429,038
Less allowance for loan losses	(7,525		)	(4,416		)
Loans, net	484,127			424,622
Premises, furniture and equipment, net	24,152			19,056
Accrued interest receivable	4,120			3,625
Cash value of life insurance	9,492			8,465
Other assets	13,602			5,833
Total assets	$	759,649		$	644,347
Liabilities:
Deposits:
Noninterest-bearing transaction accounts	$	31,661		$	31,285
Interest-bearing transaction accounts	41,354			45,228
Money market savings accounts	152,553			94,008
Other savings accounts	6,623			5,661
Time deposits $100 and over	115,762			81,082
Other time deposits	230,339			227,487
Total deposits	578,292			484,751
Federal Funds purchased	—			7,653
Repurchase agreements	8,031			9,172
Advances from the Federal Home Loan Bank	118,800			92,000
Notes payable	—			4,500
Junior subordinated debentures	6,186			6,186
Accrued interest payable	1,444			2,105
Other liabilities	1,824			3,530
Total liabilities	714,577			609,897
Commitments and Contingencies (Notes 4, 12 and 13)
Shareholders’ Equity:
Preferred stock, $1,000 par value; Authorized 5,000,000 shares; Issued and outstanding 12,895 and 0 shares at December 31, 2009 And 2008, respectively	11,962			—
Common stock, $0.01 par value, 10,000,000 shares authorized; 3,787,170 and 3,788,293 shares issued and outstanding at December 31, 2009 and 2008, respectively	38			38
Capital surplus	30,856			30,728
Common stock warrants	1,012			—
Nonvested restricted stock	(645		)	(645		)
Retained earnings	1,291			3,231
Accumulated other comprehensive income	558			1,098
Total shareholders’ equity	45,072			34,450
Total liabilities and shareholders’ equity	$	759,649		$	644,347

The accompanying notes are an integral part of the consolidated financial statements.

32

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Consolidated Statements of Operations

	Years ended December 31,
(Dollars in thousands except share amounts)	2009			2008
Interest income:
Loans, including fees	$	25,997		$	25,600
Investment securities:
Taxable	7,810			4,955
Tax-exempt	236			295
Nonmarketable equity securities	32			177
Federal funds sold and other	26			112
Total	34,101			31,139
Interest expense:
Deposits	11,632			11,215
Borrowings	3,961			3,322
Total	15,593			14,537
Net interest income	18,508			16,602
Provision for loan losses	10,361			1,754
Net interest income after provision for loan losses	8,147			14,848
Noninterest income:
Service charges on deposit accounts	1,610			1,700
Credit life insurance commissions	46			52
Gain on sale of residential mortgage loans	634			534
Brokerage commissions	234			145
Other fees and commissions	319			281
Gain (Losses) on sales of securities	4,102			439
Income from cash value life insurance	480			313
Other	138			122
Total	7,563			3,586
Noninterest expenses:
Salaries and employee benefits	9,791			8,889
Net occupancy	1,190			1,112
Marketing and advertising	457			450
Loss on sale of assets	171			(15		)
Provision for losses on OREO	336			259
Furniture and equipment	1,320			1,259
Loss on other than temporary impairment	122			—
FDIC insurance premiums	1,237			436
Other operating	3,274			2,696
Total	17,898			15,086
Income (loss) before income taxes	(2,188		)	3,348
Income tax provision (benefit)	(840		)	1,104
Net income (loss)	$	(1,348	)	$	2,244
Accretion of preferred stock to redemption value	(146		)	—
Preferred dividends accrued	(163		)	—
Net income (loss) available to common shareholders	(1,657		)	$	2,244
Net income per common share
Basic	$	(0.44	)	$	0.59
Diluted	$	(0.44	)	$	0.59
Average common shares outstanding
Basic	3,787,327			3,788,296
Diluted	3,787,327			3,829,061

The accompanying notes are an integral part of the consolidated financial statements.

33

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Consolidated Statements of Shareholders’ Equity and Comprehensive Income

Years ended December 31, 2009 and 2008

																			Accumulated
					Common					Nonvested						Retained			other
(Dollars in thousands except	Common Stock				Stock		Preferred Stock			Restricted			Capital			Earnings			comprehensive
share data)	Shares		Amount		Warrants		Shares	Amount		Stock			Surplus			(deficit)			income			Total
Balance, December 31, 2007	3,677,974		37		$	—	—	$	—	(645		)	28,689			2,908			(6		)	30,983
Net income for the period																2,244						2,244
Other comprehensive income, net of tax																			1,104			1,104
Comprehensive income																						3,348
Payment of fractional shares	(19	)														(28		)				(28		)
Declaration of 3% stock dividend on January 22, 2009	110,338		1										1,892			1,893						—
Stock compensation expense													147									147
Balance, December 31, 2008	3,788,293		$	38	$	—	—	$	—	$	(645	)	$	30,728		$	3,231		$	1,098		$	34,450
Adjustment due to 3% stock dividend of January 22, 2009	(1,123	)											(19		)	19						—
Net loss for the period																(1,348		)				(1,348		)
Other comprehensive income, net of tax																			(540		)	(540		)
Comprehensive loss																						(1,888		)
Issuance of preferred stock							12,895	11,816														11,816
Issuance of common stock warrants					1,012																	1,012
Accretion of preferred stock to redemption value								146								(146		)				—
Stock compensation expense													147									147
Payment of dividend on preferred stock																(446		)				(446		)
Payment of fractional shares																(19		)				(19		)
Balance, December 31, 2010	3,787,170		$	38	$	1,012	12,895	$	11,962	$	(645	)	$	30,856		$	1,291		$	558		$	45,072

34

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

Consolidated Statements of Cash Flows

	Years ended December 31,
(Dollars in thousands)	2009			2008
Cash flows from operating activities:
Net income	$	(1,348	)	$	2,244
Adjustments to reconcile net income to net cash provided (used) by operating activities:
Provision for loan losses	10,361			1,754
(Increase) decrease on deferred income tax benefit	909			(207		)
Depreciation expense	944			874
Premium amortization less discount accretion	673			105
Amortization of net deferred loan costs	41			14
Gain on sale of securities available-for-sale	(4,102		)	(439		)
Loss on sale of other real estate owned	520			271
Gain on disposal of premises and equipment	—			(18		)
(Increase) decrease in loans held for sale	(1,599		)	1,938
Increase in interest receivable	(495		)	(152		)
Increase (decrease) in interest payable	(661		)	1,123
Increase in other assets	(5,638		)	(363		)
Loss on other than temporary impairment investment	122			—
Stock compensation expense	147			147
Increase (decrease) in other liabilities	(1,388		)	834
Net cash provided (used) by operating activities	(1,514		)	8,125
Cash flows from investing activities:
Purchases of securities available-for-sale	(193,140		)	(145,348		)
Maturities of securities available-for-sale	90,213			15,370
Proceeds from sales of securities available-for-sale	103,027			14,681
Net increase in loans to customers	(76,397		)	(81,858		)
Purchase of premises, furniture and equipment	(6,040		)	(3,880		)
Proceeds from sale of premises, furniture and equipment	—			19
Proceeds from sale of other real estate owned	2,503			1,241
Purchase of life insurance contracts	(600		)	(7,503		)
Purchase of nonmarketable equity securities	(1,576		)	(1,934		)
Net cash used by investing activities	(82,010		)	(209,212		)
Cash flows from financing activities:
Net increase (decrease) in demand deposits, interest-bearing transaction accounts and savings accounts	56,009			(12,667		)
Net increase in time deposits	37,532			156,567
Net increase (decrease) in notes payable	(4,500		)	4,500
Net increase in FHLB borrowings	26,800			39,700
Dividend paid on preferred stock	(446		)	—
Net increase in preferred stock	12,828			—
Net increase in repurchase agreements	(1,141		)	4,172
Increase in federal funds purchased	(7,653		)	7,653
Cash paid for fractional shares	(19		)	(28		)
Net cash provided by financing activities	119,410			199,897
Net increase (decrease) in cash and cash equivalents	35,886			(1,190		)
Cash and cash equivalents, beginning of year	10,423			11,613
Cash and cash equivalents, end of year	$	46,309		$	10,423

35

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation and Consolidation - The accompanying consolidated financial statements include the accounts of HCSB Financial Corporation which was incorporated on June 10, 1999 (the Company) to serve as a bank holding company for its subsidiary and its wholly owned subsidiary, Horry County State Bank (the Bank).  The Company was incorporated on June 10, 1999. The Bank was incorporated on December 18, 1987, and opened for operations on January 4, 1988.  The principal business activity of the Company is to provide commercial banking services in Horry County, South Carolina, and in Columbus and Brunswick Counties, North Carolina.  The Bank is a state-chartered bank, and its deposits are insured by the Federal Deposit Insurance Corporation.  HCSB Financial Trust I (The Trust) is a special purpose subsidiary organized for the sole purpose of issuing trust preferred securities.  The operations of the Trust have not been consolidated in these financial statements.

Management’s Estimates - In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the balance sheet date and income and expenses for the period.  Actual results could differ significantly from those estimates.

Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses, including valuation allowances for impaired loans, and the carrying amount of real estate acquired in connection with foreclosures or in satisfaction of loans.  Management must also make estimates in determining the estimated useful lives and methods for depreciating premises and equipment.

While management uses available information to recognize losses on loans and foreclosed real estate, future additions to the allowance may be necessary based on changes in local economic conditions.  In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowances for losses on loans and foreclosed real estate.  Such agencies may require the Company to recognize additions to the allowances based on their judgments about information available to them at the time of their examination.  Because of these factors, it is reasonably possible that the allowances for losses on loans and foreclosed real estate may change materially in the near term.

Investment Securities - Investment securities available-for-sale by the Company are carried at amortized cost and adjusted to their estimated fair value.  The unrealized gain or loss is recorded in shareholders’ equity net of the deferred tax effects.  Management does not actively trade securities classified as available-for-sale, but intends to hold these securities for an indefinite period of time and may sell them prior to maturity to achieve certain objectives.  Reductions in fair value considered by management to be other than temporary are reported as a realized loss and a reduction in the cost basis in the security.  The adjusted cost basis of securities available-for-sale is determined by specific identification and is used in computing the realized gain or loss from a sales transaction.

Nonmarketable Equity Securities - Nonmarketable equity securities include the Company’s investments in the stock of the Federal Home Loan Bank at December 31, 2009 and 2008 and Silverton Bank at December 31, 2008.  The stocks are carried at cost because they have no quoted market value and no ready market exists.  Investment in Federal Home Loan Bank stock is a condition of borrowing from the Federal Home Loan Bank, and the stock is pledged to collateralize the borrowings.  Dividends received on Federal Home Loan Bank stock and Silverton Bank stock are included as a separate component in interest income.

At December 31, 2009 and 2008, the investment in Federal Home Loan Bank stock was $6,504,000 and $4,928,000, respectively.  The investment in Silverton Bank stock was $122,000 at December 31, 2008 and this amount was recorded as a realized loss on other-than-temporary impairment of value in 2009 due to Silverton’s closure by the FDIC.  The Company also had a $25,000 investment in the holding company of a community bank at December 31, 2009 and 2008.  Also included in nonmarketable equities is investment in the Trust, which totaled $186,000 at December 31, 2009 and 2008.

36

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

Loans held for Sale - Loans held for sale consist of residential mortgage loans the Company originates for sale to secondary market investors.  They are carried at the lower of aggregate cost or market value.  Net unrealized losses, if any, are recognized through a valuation allowance by charges to income.  Fees collected in conjunction with origination activities are deferred as part of the cost basis of the loan and recognized when the loan is sold.  Gains or losses on sales are recognized when the loans are sold and are determined as the difference between the sales price and the carrying value of the loans.

The Company issues rate lock commitments to borrowers based on prices quoted by secondary market investors.  When rates are locked with borrowers, a sales commitment is immediately entered (on a best efforts basis) at a specified price with a secondary market investor.  Accordingly, any potential liabilities associated with rate lock commitments are offset by sales commitments to investors.

Loans Receivable - Loans receivable are stated at their unpaid principal balance.  Interest income on loans is computed based upon the unpaid principal balance.  Interest income is recorded in the period earned.

The accrual of interest income is generally discontinued when a loan becomes contractually 90 days past due as to principal or interest.  Management may elect to continue the accrual of interest when the estimated net realizable value of collateral exceeds the principal balance and accrued interest.

Loan origination and commitment fees and certain direct loan origination costs (principally salaries and employee benefits) are deferred and amortized to income over the contractual life of the related loans or commitments, adjusted for prepayments, using the straight-line method.

Loans are defined as impaired when it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement.  All loans are subject to this criteria except for smaller balance homogeneous loans that are collectively evaluated for impairment and loans measured at fair value or at the lower of cost or fair value.  The Company considers its consumer installment portfolio, credit card loans, and home equity lines as such exceptions.  Therefore, loans within the real estate and commercial loan portfolios are reviewed individually.

Impairment of a loan is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.  When management determines that a loan is impaired, the difference between the Company’s investment in the related loan and the present value of the expected future cash flows, or the fair value of the collateral, is charged off with a corresponding entry to the allowance for loan losses.  The accrual of interest is discontinued on an impaired loan when management determines the borrower may be unable to meet payments as they become due.  As discussed in Note 4, nonaccrual loans comprise a substantial majority of loans classified as impaired at December 31, 2009 and 2008.

Concentrations of Credit Risk - Financial instruments, which potentially subject the Company to concentrations of credit risk, consist principally of loans receivable, investment securities, federal funds sold and amounts due from banks.

The Company makes loans to individuals and small businesses for various personal and commercial purposes primarily throughout Horry County in South Carolina and Columbus and Brunswick counties of North Carolina.  The Company’s loan portfolio is not concentrated in loans to any single borrower or a relatively small number of borrowers. Additionally, management is not aware of any concentrations of loans to classes of borrowers or industries that would be similarly affected by economic conditions except for loans secured by residential and commercial real estate and commercial and industrial non-real estate loans.  These concentrations of residential and commercial real estate loans and commercial and industrial non-real estate loans totaled $266,751,000 and $60,915,000, respectively, at December 31, 2009, representing 591.84% and 135.15%, respectively, of total equity and 55.10% and 12.58%, respectively, of net loans receivable.

37

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

Concentrations of Credit Risk (continued) - In addition to monitoring potential concentrations of loans to particular borrowers or groups of borrowers, industries and geographic regions, management monitors exposure to credit risk from concentrations of lending products and practices such as loans that subject borrowers to substantial payment increases (e.g. principal deferral periods, loans with initial interest-only periods, etc.), and loans with high loan-to-value ratios. Management has determined that there is no concentration of credit risk associated with its lending policies or practices. Additionally, there are industry practices that could subject the Company to increased credit risk should economic conditions change over the course of a loan’s life.  For example, the Company makes variable rate loans and fixed rate principal-amortizing loans with maturities prior to the loan being fully paid (i.e. balloon payment loans).  These loans are underwritten and monitored to manage the associated risks.  Therefore, management believes that these particular practices do not subject the Company to unusual credit risk.

The Company’s investment portfolio consists principally of obligations of the United States, its agencies or its corporations and general obligation municipal securities.  In the opinion of management, there is no concentration of credit risk in its investment portfolio.  The Company places its deposits and correspondent accounts with and sells its federal funds to high quality institutions.  Management believes credit risk associated with correspondent accounts is not significant.

Allowance for Loan Losses - Management believes that the allowance is adequate to absorb inherent losses in the loan portfolio; however, assessing the adequacy of the allowance is a process that requires considerable judgment.  Management’s judgments are based on numerous assumptions about current events, which management believes to be reasonable, but which may or may not be valid.  Thus there can be no assurance that loan losses in future periods will not exceed the current allowance amount or that future increases in the allowance will not be required.  No assurance can be given that management’s ongoing evaluation of the loan portfolio in light of changing economic conditions and other relevant circumstances will not require significant future additions to the allowance, thus adversely affecting the operating results of the Company.

The allowance is subject to examination by regulatory agencies, which may consider such factors as the methodology used to determine adequacy and the size of the allowance relative to that of peer institutions, and other adequacy tests.  In addition, such regulatory agencies could require the Company to adjust its allowance based on information available to them at their examination.

The methodology used to determine the reserve for unfunded lending commitments, which is included in other liabilities, is inherently similar to that used to determine the allowance for loan losses adjusted for factors specific to binding commitments, including the probability of funding and historical loss ratio.

Premises, Furniture and Equipment - Premises, furniture and equipment are stated at cost less accumulated depreciation.  The provision for depreciation is computed by the straight-line method.  Rates of depreciation are generally based on the following estimated useful lives:  buildings - 40 years; furniture and equipment - - 3 to 25 years.  The cost of assets sold or otherwise disposed of and the related accumulated depreciation is eliminated from the accounts, and the resulting gains or losses are reflected in the income statement.

Maintenance and repairs are charged to current expense as incurred, and the costs of major renewals and improvements are capitalized.

Other Real Estate Owned - Other real estate owned includes real estate acquired through foreclosure.  Other real estate owned is initially recorded at the lower of cost (principal balance of the former loan plus costs of improvements) or fair value, less estimated costs to sell.

Any write-downs at the dates of acquisition are charged to the allowance for loan losses.  Expenses to maintain such assets, subsequent write-downs, and gains and losses on disposal are included in other expenses.

38

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

Derivative Financial Instruments - The Company has entered into certain interest rate swap agreements which are derivative financial instruments (“derivatives”).  The derivatives are recognized as other assets on the balance sheet at their fair value. On the date the derivative contract is entered into, the Company designates the derivative as a hedge of fair value of a recognized asset or liability (“fair value hedge”).  Changes in the fair value of a derivative that is highly effective as - and that is designated and qualifies - as a fair value hedge, along with the loss or gain on the hedged asset or liability that is attributable to the hedged risk, are recorded in current-period earnings.

The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking hedged transactions.  This process includes linking all derivatives that are designated as fair value hedges to specific assets and liabilities on the balance sheet.  The derivatives in which the Company is a counterparty qualify for the “shortcut” method of assessing the ongoing effectiveness of its hedging relationship with the underlying hedged item.  The Company discontinues hedge accounting prospectively when (1) the derivative expires or is sold, terminated, or exercised; (2) management determines that designation of the derivative as a hedge instrument is no longer appropriate; or (3) the underlying hedged item is liquidated.  When hedge accounting is discontinued, the derivative is carried at its fair value on the balance sheet, with changes in its fair value recognized in current-period earnings.

Income and Expense Recognition - The accrual method of accounting is used for all significant categories of income and expense.  Immaterial amounts of insurance commissions and other miscellaneous fees are reported when received.

Income Taxes - Amounts provided for income taxes are based on income reported for financial statement purposes. Deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities.  Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management has determined that it is more likely than not that the entire deferred tax asset at December 31, 2009, will not be realized, and accordingly, has established a valuation allowance.  Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.

The Company believes that its income tax filing positions taken or expected to be taken in its tax returns will more likely than not be sustained upon audit by the taxing authorities and does not anticipate any adjustments that will result in a material adverse impact on the Company’s financial condition, results of operations, or cash flow.  Therefore no reserves for uncertain income tax positions have been recorded.

Advertising Expense - Advertising and public relations costs are generally expensed as incurred.  External costs incurred in producing media advertising are expensed the first time the advertising takes place.  External costs relating to direct mailing costs are expensed in the period in which the direct mailings are sent.  Advertising and public relations costs of $457,000 and $450,000 were included in the Company’s results of operations for 2009 and 2008, respectively.

Net Income (Loss) Per Share - Basic income (loss) per share is calculated by dividing net income (loss) by the weighted-average number of shares outstanding during the year.  Diluted net income per share is computed based on net income divided by the weighted average number of common and potential common shares.  Retroactive recognition has been given for the effects of all stock dividends and splits in computing the weighted-average number of shares.  The only potential common share equivalents are those related to stock options and restricted stock awards.  Stock options which are anti-dilutive are excluded from the calculation of diluted net income per share.

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NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

Comprehensive Income - Accounting principles generally require recognized income, expenses, gains, and losses to be included in net income.  Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

The components of other comprehensive income and related tax effects are as follows:

	Years Ended December 31,
(Dollars in thousands)	2009			2008
Unrealized gains on securities available-for-sale	$	3,245		$	2,191
Reclassification adjustment for (gains) losses realized in net income	(4,102		)	(439		)
Net unrealized losses on securities	(857		)	1,752
Tax effect	317			(648		)
Net-of-tax amount	$	(540	)	$	1,104

Statements of Cash Flows- For purposes of reporting cash flows, the Company considers certain highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents.  Cash equivalents include amounts due from banks, federal funds sold, and time deposits with other banks with maturities of three months or less.

The following summarizes supplemental cash flow information:

	Years ended December 31,
(Dollars in thousands)	2009		2008
Cash paid for interest	$	16,254	$	13,414
Cash paid for income taxes	831		1,344
Supplemental noncash investing and financing activities:
Transfers of loans to other real estate owned	6,490		2,639

Off-Balance-Sheet Financial Instruments - In the ordinary course of business, the Company enters into off-balance-sheet financial instruments consisting of commitments to extend credit and letters of credit.  These financial instruments are recorded in the financial statements when they become payable by the customer.

Recently Issued Accounting Pronouncements — The following is a summary of recent authoritative pronouncements.

In June 2009, the Financial Accounting Standards Board (“FASB”) issued guidance which restructured generally accepted accounting principles (“GAAP”) and simplified access to all authoritative literature by providing a single source of authoritative nongovernmental GAAP.  The guidance is presented in a topically organized structure referred to as the FASB Accounting Standards Codification (“ASC”). The new structure is effective for interim or annual periods ending after September 15, 2009. All existing accounting standards have been superseded and all other accounting literature not included is considered nonauthoritative.

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NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

The FASB issued new accounting guidance on accounting for transfers of financial assets in June 2009.  The guidance limits the circumstances in which a financial asset should be derecognized when the transferor has not transferred the entire financial asset by taking into consideration the transferor’s continuing involvement.  The standard requires that a transferor recognize and initially measure at fair value all assets obtained (including a transferor’s beneficial interest) and liabilities incurred as a result of a transfer of financial assets accounted for as a sale.  The concept of a qualifying special-purpose entity is no longer applicable.  The standard is effective for the first annual reporting period that begins after November 15, 2009, for interim periods within the first annual reporting period, and for interim and annual reporting periods thereafter.  Earlier application is prohibited.  The Company does not expect the guidance to have any impact on the Company’s financial statements.

In January 2010, guidance was issued to alleviate diversity in the accounting for distributions to shareholders that allow the shareholder to elect to receive their entire distribution in cash or shares but with a limit on the aggregate amount of cash to be paid.  The amendment states that the stock portion of a distribution to shareholders that allows them to elect to receive cash or shares with a potential limitation on the total amount of cash that all shareholders can elect to receive in the aggregate is considered a share issuance.  The amendment is effective for interim and annual periods ending on or after December 15, 2009 and had no impact on the Company’s financial statements.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

Risks and Uncertainties - In the normal course of its business, the Company encounters two significant types of risks: economic and regulatory.  There are three main components of economic risk:  interest rate risk, credit risk and market risk.  The Company is subject to interest rate risk to the degree that its interest-bearing liabilities mature or reprice at different speeds, or on different basis, than its interest-earning assets.  Credit risk is the risk of default on the Company’s loan portfolio that results from borrower’s inability or unwillingness to make contractually required payments.  Market risk reflects changes in the value of collateral underlying loans receivable and the valuation of real estate held by the Company.

The Company is subject to the regulations of various governmental agencies.  These regulations can and do change significantly from period to period.  The Company also undergoes periodic examinations by the regulatory agencies, which may subject it to further changes with respect to asset valuations, amounts of required loss allowances and operating restrictions from the regulators’ judgments based on information available to them at the time of their examination.

Additionally, the Company is subject to certain regulations due to our participation in the Capital Purchase Program.  Pursuant to the terms of the CPP Purchase Agreement between us and the Treasury, we adopted certain standards for executive compensation and corporate governance for the period during which the Treasury holds the equity issued pursuant to the CPP Purchase Agreement, including the common stock which may be issued pursuant to the CPP Warrant.  These standards generally apply to our named executive officers. The standards include (1) ensuring that incentive compensation for senior executives does not encourage unnecessary and excessive risks that threaten the value of the financial institution; (2) required clawback of any bonus or incentive compensation paid to a senior executive based on statements of earnings, gains or other criteria that are later proven to be materially inaccurate; (3) prohibition on making golden parachute payments to senior executives; (4) prohibition on providing tax gross-up provisions; and (5) agreement not to deduct for tax purposes executive compensation in excess of $500,000 for each senior executive.  In particular, the change to the deductibility limit on executive compensation will likely increase the overall cost of our compensation programs in future periods and may make it more difficult to attract suitable candidates to serve as executive officers.

In February, 2005 the Bank purchased a $500,000 15-year renewable and convertible term life insurance policy through Banner Life Insurance Company on the life of James R. Clarkson, President and CEO.  The Bank is both the owner and the beneficiary of this key person policy.  The purpose of securing this policy was to provide the Bank

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - continued

with financial protection in the event of the unexpected death of Mr. Clarkson and better enable the Bank to attract a qualified replacement for Mr. Clarkson in such a situation.

Legislation that has been adopted after we closed on our sale of Series T Preferred Stock and warrants to the Treasury for $12.9 million pursuant to the Capital Purchase Program on March 6, 2009, or any legislation or regulations that may be implemented in the future, may have a material impact on the terms of our Capital Purchase Program transaction with the Treasury.   If we determine that any such legislation or any regulations, in whole or in part, alter the terms of our Capital Purchase Program transaction with the Treasury in ways that we believe are adverse to our ability to effectively manage our business, then it is possible that we may seek to unwind, in whole or in part, the Capital Purchase Program transaction by repurchasing some or all of the preferred stock and warrants that we sold to the Treasury pursuant to the Capital Purchase Program.  If we were to repurchase all or a portion of such preferred stock or warrants, then our capital levels could be materially reduced.

Reclassifications - Certain captions and amounts in the 2008 financial statements were reclassified to conform to the 2009 presentation.

NOTE 2 - CASH AND DUE FROM BANKS

The Bank is required by regulation to maintain an average cash reserve balance based on a percentage of deposits.  At December 31, 2009 and 2008, the requirements were satisfied by amounts on deposit with the Federal Reserve Bank and cash on hand.

NOTE 3 - INVESTMENT SECURITIES

Securities available-for-sale consisted of the following:

	Amortized		Gross Unrealized				Estimated
(Dollars in thousands)	Cost		Gains		Losses		Fair Value
December 31, 2009
Government-sponsored enterprises	$	27,730	$	98	$	317	$	27,511
Mortgage-backed securities	135,386		1,928		1,059		136,255
Obligations of state and local governments	5,462		257		22		5,697
Total	$	168,578	$	2,283	$	1,398	$	169,463
December 31, 2008
Government-sponsored enterprises	$	18,953	$	363	$	—	$	19,316
Mortgage-backed securities	138,682		2,374		1,048		140,008
Obligations of state and local governments	7,613		157		102		7,668
Total	$	165,248	$	2,894	$	1,150	$	166,992

The following is a summary of maturities of securities available-for-sale as of December 31, 2009.  The amortized cost and estimated fair values are based on the contractual maturity dates.  Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalty.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 3 - INVESTMENT SECURITIES - continued

	Securities
	Available-For-Sale
	Amortized		Estimated
(Dollars in thousands)	Cost		Fair Value
Due in less than one year	$	784	$	787
Due after one year but within five years	5,939		6,045
Due after five years but within ten years	26,896		26,998
Due after ten years	134,959		135,633
Total	$	168,578	$	169,463

The following table shows gross unrealized losses and fair value, aggregated by investment category, and length of time that individual securities have been in a continuous unrealized loss position, at:

Securities Available for Sale

	December 31, 2009
	Less than twelve months				Twelve months or more				Total
(Dollars in thousands)	Fair Value		Unrealized losses		Fair Value		Unrealized losses		Fair Value		Unrealized losses
Government-sponsored enterprises	$	14,835	$	316	$	—	$	—	$	14,835	$	317
Mortgage-backed securities	25,493		946		1,218		113		26,711		1,059
Obligations of state and local governments	253		22		—		—		253		22
Total	$	40,581	$	1,284	$	1,218	$	113	$	41,799	$	1,398

	December 31, 2008
	Less than twelve months				Twelve months or more				Total
(Dollars in thousands)	Fair Value		Unrealized losses		Fair Value		Unrealized losses		Fair Value		Unrealized losses
Government-sponsored enterprises	$	—	$	—	$	—	$	—	$	—	$	—
Mortgage-backed securities	25,080		1,036		1,741		12		26,821		1,048
Obligations of state and local governments	403		3		1,401		99		1,804		102
Total	$	25,483	$	1,039	$	3,142	$	111	$	28,625	$	1,150

Management evaluates its investment portfolio periodically to identify any impairment that is other than temporary.  At December 31, 2009, the Company had two individual securities, or 0.72% of the security portfolio, that have been in an unrealized loss position for more than twelve months.  Management believes these losses are temporary and are a result of the current interest rate environment.  The Company does not intend to sell these securities and it is more likely than not that the Company will not be required to sell these securities before recovery of their amortized cost.

At December 31, 2009 and 2008, investment securities with a book value of $142,877,000 and $112,682,000, respectively, and a market value of $143,744,000 and $114,891,000, respectively, were pledged to secure deposits.

Gross realized gains on sales of available-for-sale securities in 2009 were $4,102,000.  There were no losses experienced on sales of available-for-sale securities during 2009.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 4 - LOANS RECEIVABLE

Loans consisted of the following:

	December 31,
(Dollars in thousands)	2009		2008
Real estate - construction and land development	$	95,788	$	60,643
Real estate - mortgage and commercial	305,561		253,450
Agricultural	10,338		7,613
Commercial and industrial	60,914		84,568
Consumer	15,871		19,655
All other loans (including overdrafts)	3,180		3,109
Total gross loans	$	491,652	$	429,038

Certain parties (principally certain directors and officers of the Company, their immediate families, and business interests) were loan customers and had other transactions in the normal course of business with the Company.  Related party loans are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated persons and do not involve more than normal risk of collectibility.  The aggregate dollar amounts of loans to related parties were $14,974,000 and $16,957,000 at December 31, 2009 and 2008, respectively.  During 2009, advances on related party loans totaled $7,139,000, and repayments were $8,878,000.

Transactions in the allowance for loan losses are summarized below:

	Years Ended December 31,
(Dollars in thousands)	2009			2008
Balance, beginning of year	$	4,416		$	3,535
Provision charged to operations	10,361			1,754
Recoveries on loans previously charged off	2,556			379
Loans charged off	(9,808		)	(1,252		)
Balance, end of year	$	7,525		$	4,416

Loans on the Company’s problem loan watch list are considered potentially impaired loans.  These loans are evaluated in determining whether all outstanding principal and interest are expected to be collected.  Loans are not considered impaired if a minimal delay occurs and all amounts due, including accrued interest at the contractual interest rate for the period of the delay, are expected to be collected.

As of December 31, 2009 and 2008, the Company had nonaccrual loans of approximately $23,138,000 and $9,040,000, respectively.  These loans comprise a substantial majority of loans classified as impaired.  At December 31, 2009, the Company did not have any loans that were contractually past due 90 days or more and still accruing interest.  The additional interest income, which would have been recognized into earnings if the Company’s nonaccrual loans had been current in accordance with their original terms, was $1,141,000 and $391,000 during 2009 and 2008, respectively.  Average impaired loans as of December 31, 2009 and 2008 were $16,954,000 and $5,131,000, respectively.  Total impaired loans at December 31, 2009 and 2008 were $37,275,389 and $14,892,060.  At December 31, 2009, $19,235,851 of impaired loans had a specific allowance of $3,620,511 and $18,039,538 of impaired loans had no specific allowance.  At December 31, 2008, $14,892,060 of total impaired loans had an allowance of $1,792,157.

The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit and standby letters of credit.  These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheets.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual or notional amount of those instruments.  The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments.

Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party.  The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers.  The fair value of standby letters of credit is insignificant.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract.  Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.  Since some of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  The Company evaluates each customer’s creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the counter-party.

Collateral held for commitments to extend credit and standby letters of credit varies but may include accounts receivable, inventory, property, plant, equipment, and income-producing commercial properties.  The following table summarizes the Company’s off-balance-sheet financial instruments whose contract amounts represent credit risk:

	December 31,
(Dollars in thousands)	2009		2008
Commitments to extend credit	$	53,840	$	61,918
Standby letters of credit	1,137		1,137

NOTE 5 - PREMISES, FURNITURE AND EQUIPMENT

Premises, furniture and equipment consisted of the following:

	December 31,
(Dollars in thousands)	2009			2008
Land	$	7,099		$	7,099
Buildings and land improvements	16,160			10,567
Furniture and equipment	7,370			5,966
Leasehold improvements	65			65
Construction in progress	—			972
	30,694			24,669
Less accumulated depreciation	(6,542		)	(5,613		)
Premises, furniture and equipment, net	$	24,152		$	19,056

Depreciation expense for the years ended December 31, 2009 and 2008 was $944,000 and $874,000, respectively.

In 2006, the Company purchased a 5-acre lot of land in the Loris Commerce Center in Loris, S.C. to construct a new Operations Center to accommodate its executive offices and all support services.  The amounts shown as construction in progress for the years ended December 31, 2008 reflect the Company’s investment in this property.  The Company completed all phases of the construction process during the fourth quarter of 2009 and at that time allocated the balance in construction in progress among land, buildings and land improvements, furniture and fixtures and equipment.

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NOTE 6 - OTHER ASSETS

Other assets consisted of the following:

	December 31,
(Dollars in thousands)	2009		2008
Other real estate owned	$	6,432	$	2,965
Prepaid expenses and insurance	4,131		426
Unamortized software	191		221
Net deferred tax asset	66		975
Other	2,782		1,246
Total	$	13,602	$	5,833

NOTE 7 - - DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

The Company maintains an overall interest-rate risk-management strategy that incorporates the use of derivatives to minimize significant unplanned fluctuations in earnings that are caused by interest-rate volatility.  As part of this strategy, the Company entered certain interest rate swap agreements.  Such interest rate swaps are derivative financial instruments (“derivatives”).  Interest rate swaps generally involve the exchange of fixed and variable rate interest payments between two parties, based on a common notional amount and maturity date.  The Company’s goal is to manage interest-rate sensitivity by modifying the repricing or maturity characteristics of specific balance-sheet assets and liabilities so that the net-interest margin is not, on a material basis, adversely affected by movements in interest rates. The interest-rate swaps entered by the Company converted certain nonprepayable fixed rate long term debt to floating rates. As a result of interest-rate fluctuations, hedged assets and liabilities will appreciate or depreciate in market value.  The effect of this unrealized appreciation or depreciation will generally be offset by income or loss on the derivatives that are linked to the hedged assets and liabilities.  The Company views this strategy as a prudent management of interest-rate sensitivity, such that earnings are not exposed to undue risk presented by changes in interest rates.

By using derivative instruments, the Company is exposed to credit and market risk.  If the counterparty fails to perform, credit risk is equal to the extent of the fair-value gain in a derivative.  When the fair value of a derivative contract is positive, this generally indicates that the counterparty owes the Company, and, therefore, creates a repayment risk for the Company.  When the fair value of a derivative contract is negative, the Company owes the counterparty and, therefore, it has no repayment risk.  The Company minimizes the credit (or repayment) risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed by the Company’s credit committee.

Market risk is the adverse effect that a change in interest rates, currency, or implied volatility rates has on the value of a financial instrument.  The Company manages the market risk associated with interest rate swap contracts by establishing and monitoring limits as to the types and degree of risk that may be undertaken.  The Company periodically measures this risk by using a value-at-risk methodology.

The Company’s derivatives activities are monitored by its risk-management committee as part of that committee’s oversight of the Company’s asset/liability and treasury functions.  The Company’s asset/liability committee is responsible for implementing various hedging strategies that are developed through its analysis of data from financial simulation models and other internal and industry sources.  The resulting hedging strategies are then incorporated into the Company’s overall interest-rate risk-management and trading strategies.

The interest rate swap agreements provide for the Company to make payments at a variable rate determined by a specified index (three month LIBOR) in exchange for receiving payments at a fixed rate of 3.4%.  In May 2009, the Company terminated the interest rate swaps that hedged our three highest costing Federal Home Loan Bank advances.  The unwinding of these interest rate swaps produced a gain of $82,000 recognized as a reduction in interest expense on our Federal Home Loan Bank advances.  During 2008, the Company recognized $56,000 in interest expense as a result of its interest rate swaps.  Currently, the Company does not utilize swaps to hedge interest rate risk.

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NOTE 8 - NOTE PAYABLE

On September 25, 2008 the Company entered into a line of credit agreement with South Carolina Bank & Trust to borrow up to $5,000,000.  At December 31, 2008 the balance extended under the agreement was $4,500,000.  On March 6, 2009 all principal and interest was repaid.  The line of credit agreement expired on September 25, 2009.

NOTE 9 - DEPOSITS

At December 31, 2009, the scheduled maturities of time deposits were as follows:

(Dollars in thousands)
Maturing In	Amount
2010	$	294,576
2011	44,308
2012	3,867
2013	2,130
2014 and thereafter	1,220
Total	$	346,101

Overdrawn transaction accounts in the amount of $125,000 and $161,000 were classified as loans as of December 31, 2009 and 2008, respectively.

Related party deposits by directors including their affiliates and executive officers totaled approximately $4,861,000 and $4,568,000 at December 31, 2009 and 2008, respectively.

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NOTE 10 - ADVANCES FROM THE FEDERAL HOME LOAN BANK

Advances from the Federal Home Loan Bank consisted of the following:

	Interest		December 31,
(Dollars in thousands)	Rate		2009		2008
Advances maturing on:
April 2, 2009	0.46	%	$	—	$	8,400
March 1, 2010	5.92	%	5,000		5,000
May 24, 2010	6.49	%	4,600		4,600
October 15, 2010	4.59	%	5,000		5,000
March 16, 2011	1.94	%	500		—
March 22, 2011	0.25	%	5,000		5,000
January 17, 2012	0.28	%	5,000		5,000
March 19, 2012	2.56	%	500		—
April 13, 2012	2.56	%	1,000		—
July 23, 2012	3.81	%	5,000		5,000
September 4, 2012	4.42	%	5,000		5,000
September 7, 2012	4.05	%	1,000		1,000
January 29, 2013	2.87	%	2,000		—
February 20, 2013	2.93	%	2,000		—
March 4, 2013	2.90	%	3,000		—
April 8, 2013	2.86	%	2,000		—
April 15, 2013	2.65	%	2,000		—
April 22, 2013	2.55	%	2,000		—
May 1, 2013	2.60	%	2,000		—
October 18, 2013	2.63	%	5,000		5,000
January 22, 2014	2.95	%	200		—
March 20, 2014	3.05	%	2,000		—
April 21, 2014	2.95	%	3,000		—
April 28, 2014	2.95	%	2,000		—
May 8, 2014	3.00	%	3,000		—
October 1, 2014	2.89	%	3,000		—
December 8, 2014	3.24	%	5,000		5,000
January 26, 2015	2.73	%	2,000		2,000
March 19, 2015	2.66	%	4,000		4,000
August 20, 2018	3.44	%	5,000		5,000
September 4, 2018	3.60	%	2,000		2,000
September 4, 2018	3.32	%	5,000		5,000
September 10, 2018	3.25	%	5,000		5,000
September 10, 2018	3.45	%	5,000		5,000
September 18, 2018	2.95	%	5,000		5,000
October 10, 2018	2.63	%	5,000		5,000
August 20, 2019	3.86	%	5,000		—
Total			$	118,800	$	92,000

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NOTE 10 - ADVANCES FROM THE FEDERAL HOME LOAN BANK - continued

As of December 31, 2009, the Company’s portfolio of FHLB advances consisted of $10,000,000 of adjustable rate credits, $49,800,000 of fixed rate credits, and $59,000,000 of convertible advances.  Interest on fixed rate advances is generally payable monthly and interest on all other advances is payable quarterly.  Convertible advances are callable by the Federal Home Loan Bank on their respective call dates.  The Company has the option to either repay any advance that has been called or to refinance the advance as a convertible advance.

At December 31, 2009, the Company had pledged as collateral for FHLB advances approximately $18,585,000 of one-to-four family first mortgage loans, $3,867,000 of commercial real estate loans, $6,341,000 in home equity lines of credit and $93,238,000 of agency and private issue mortgage-backed securities.  The Company has an investment in Federal Home Loan Bank stock of $6,504,000.  The Company has $550,000 in excess borrowing capacity with the Federal Home Loan Bank that is available if liquidity needs should arise.

As of December 31, 2009, scheduled principal reductions include $14,600,000 in 2010, $5,500,000 in 2011, $17,500,000 in 2012, $20,000,000 in 2013, $18,200,000 in 2014, and $43,000,000 in years thereafter.

As discussed in Note 7, the Company had entered into interest rate swap agreements associated with Federal Home Loan Bank advances maturing on March 1, 2010, May 24, 2010 and March 22, 2011.  The interest rate swaps effectively converted the fixed interest rates on the advances to a variable rate.  The interest rate swaps that hedged these Federal Home Loan Bank advances are no longer in effect as referenced in Note 7 — Derivative Instruments and Hedging Activities.

NOTE 11 - - JUNIOR SUBORDINATED DEBENTURES

On December 21, 2004, HCSB Financial Trust I, (a non-consolidated subsidiary) issued $6.0 million floating rate trust preferred securities with a maturity of December 31, 2034.  The rate is adjusted quarterly and was 2.65% at December 31, 2009.  In accordance with current accounting standards, the trust has not been consolidated in these financial statements.  The Company received from the Trust the $6.0 million proceeds from the issuance of the securities and the $186,000 initial proceeds from the capital investment in the Trust, and accordingly has shown the funds due to the trust as a $6,186,000 junior subordinated debenture.  The current regulatory rules allow certain amounts of junior subordinated debentures to be included in the calculation of regulatory capital.  The debenture issuance costs, net of accumulated amortization, totaled $91,000 at December 31, 2009 and are included in other assets on the consolidated balance sheet.  Amortization of debt issuance costs totaled $3,667 for each of the years ended December 31, 2009 and 2008.

The Company invested $5,880,000 in the Company’s wholly-owned subsidiary, Horry County State Bank.  The remaining balance is being maintained by the Company to fund operations.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 12 - LEASE COMMITMENTS

On January 1, 2008, the Company renewed a lease agreement for land on which to operate its Tabor City branch.  The lease has a five-year term that expires December 31, 2012.  The Company has an option for nine additional five-year renewal periods thereafter.  The lease has a rental amount of $1,047 per month through December 31, 2012.  The lease gives the Company the first right of refusal to purchase the property at an unimproved value if the owners decide to sell.  The Company also pays applicable property taxes on the property.

Future minimum lease payments are expected to be approximately $12,564 per year.

NOTE 13 - COMMITMENTS AND CONTINGENCIES

In the ordinary course of business, the Company may, from time to time, become a party to legal claims and disputes.  At December 31, 2009 management was not aware of any pending or threatened litigation or unasserted claims that could result in losses, if any, that would be material to the financial statements.

NOTE 14 - SHAREHOLDERS’ EQUITY

Stock Dividends - In January 2009, the Board of Directors declared a 3% stock dividend payable on February 20, 2009, to shareholders of record on February 6, 2009.  As a result of the dividend, 110,338 shares were issued.  All share and per share amounts have been adjusted to reflect these dividends.

Restrictions on Dividends - - South Carolina banking regulations restrict the amount of dividends that can be paid to shareholders.  All of the Bank’s dividends to HCSB Financial Corporation are payable only from the undivided profits of the Bank.  At December 31, 2009 the Bank’s undivided profits were $17,132,440.  The Bank is authorized to pay cash dividends up to 100% of net income in any calendar year without obtaining the prior approval of the Commissioner of Banking provided that the Bank received a composite rating of one or two at the last Federal or State regulatory examination.  Under Federal Reserve Board regulations, the amounts of loans or advances from the Bank to the parent company are also restricted.  The Company is prohibited from declaring any dividends on its common stock until March 6, 2012 with Treasury’s approval unless the 12,985 shares of preferred stock have been repurchased from Treasury.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 15 - CAPITAL REQUIREMENTS

The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies.  Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on the Company’s financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Company’s and the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.  The Company’s and the Bank’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk-weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum ratios (set forth in the table below) of Tier 1 and total capital as a percentage of assets and off-balance-sheet exposures, adjusted for risk-weights ranging from 0% to 100%.  Tier 1 capital of the Bank consists of common shareholders’ equity, excluding the unrealized gain or loss on securities available for sale, minus certain intangible assets.  Tier 2 capital consists of the allowance for loan losses subject to certain limitations.  Total capital for purposes of computing the capital ratios consists of the sum of Tier 1 and Tier 2 capital.

The Company and the Bank are also required to maintain capital at a minimum level based on quarterly average assets (as defined), which is known as the leverage ratio.  Only the strongest institutions are allowed to maintain capital at the minimum requirement of 3%.  All others are subject to maintaining ratios 1% to 2% above the minimum.

As of the most recent regulatory examination, the Bank was deemed well capitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, the Bank must maintain total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table below.  There are no conditions or events that management believes have changed the Company’s or the Bank’s categories.

The following table summarizes the capital ratios and the regulatory minimum requirements for the Company and the Bank.

	Actual				Minimum Requirement For Capital Adequacy Purposes				To Be Well- Capitalized Under Prompt Corrective Action Provisions
(Dollars in thousands)	Amount		Ratio		Amount		Ratio		Amount		Ratio
December 31, 2009
The Company
Total capital (to risk-weighted assets)	$	57,172	10.75	%	$	42,541	8.00	%	N/A		N/A
Tier 1 capital (to risk-weighted assets)	50,514		9.50	%	21,270		4.00	%	N/A		N/A
Tier 1 capital (to average assets)	50,514		6.94	%	29,097		4.00	%	N/A		N/A
The Bank
Total capital (to risk-weighted assets)	$	56,617	10.65	%	$	42,544	8.00	%	$	53,180	10.00	%
Tier 1 capital (to risk-weighted assets)	49,959		9.39	%	21,272		4.00	%	31,908		6.00	%
Tier 1 capital (to average assets)	49,959		6.47	%	30,894		4.00	%	38,618		5.00	%
December 31, 2008
The Company
Total capital (to risk-weighted assets)	$	43,768	9.55	%	$	36,652	8.00	%	N/A		N/A
Tier 1 capital (to risk-weighted assets)	39,352		8.59	%	18,326		4.00	%	N/A		N/A
Tier 1 capital (to average assets)	39,352		7.41	%	21,251		4.00	%	N/A		N/A
The Bank
Total capital (to risk-weighted assets)	$	47,130	10.31	%	$	36,553	8.00	%	$	45,692	10.00	%
Tier 1 capital (to risk-weighted assets)	42,714		9.35	%	18,277		4.00	%	27,415		6.00	%
Tier 1 capital (to average assets)	42,714		6.86	%	24,898		4.00	%	31,122		5.00	%

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 16 - RETIREMENT AND BENEFITS

Trusteed Retirement Savings Plan - The Bank has a trustee retirement savings plan which provides retirement benefits to substantially all officers and employees who meet certain age and service requirements.  The plan includes a “salary reduction” feature pursuant to Section 401(k) of the Internal Revenue Code.  Under the plan and present policies, participants are permitted to contribute up to 15% of their annual compensation.  At its discretion, the Bank can make matching contributions up to 4% of the participants’ compensation.  The Company charged $259,000 and $233,000 to earnings for the retirement savings plan in 2009 and 2008, respectively.

Directors Deferred Compensation Plan - The Company has a deferred compensation plan whereby directors may elect to defer the payment of their fees.  Under the terms of the plan, the Company accrues an expense equal to the amount deferred plus an interest component based on the prime rate of interest at the beginning of each year.  The Company has also purchased life insurance contracts on each of the participating directors.  At December 31, 2009 and 2008, $1,032,000 and $912,000, respectively, of directors’ fees were deferred and are included in other liabilities.

Performance Compensation for Incentive Plan - The Company implemented an employee bonus program in 2003 which it refers to as its Performance Compensation Plan.  The plan pays employees based on a schedule of key performance indicators they are required to meet in order to be rewarded.  The plan accrues for its employee bonuses based on a percentage of each employee’s annual salary.  The plan has a fiscal year ending on December 31, and pays out on January 30 of the following year.  The Company charged $40,000 to earnings for the plan in 2008.  There was no expense charged to earnings for the plan in 2009.

Salary Continuation Plan - The Company implemented a salary continuation plan for each of the executive officers of the Company and key officers of the Bank in April 2008.  The Plan provides the participants with retirement benefits as well as benefits in the event of a change in control of the Company or disability of the participants.  It also provides death benefits to the designated beneficiaries of the participants.  Benefit amounts are based on 20% of the final projected salaries of the participants and the expense of the Plan is offset by the Bank-Owned Life Insurance (BOLI) in each participant.  At December 31, 2009 and 2008, $271,000 and $169,000, respectively, of salary continuation plan expense was charged to earnings.  Also, $480,000 and $313,000 of income was made on our BOLI policies during 2009 and 2008, respectively.

NOTE 17 - - EARNINGS PER SHARE

Earnings per share - basic is computed by dividing net income by the weighted average number of common shares outstanding.  Earnings per share - diluted is computed by dividing net income by the weighted average number of common shares outstanding and dilutive common share equivalents using the treasury stock method.  Dilutive common share equivalents include common shares issuable upon exercise of outstanding stock options.  For 2009, common shares issuable upon exercise of employee stock options have not been included because their inclusion would have an anitdilutive effect applicable to net loss per share.  All share amounts have been adjusted for stock splits and dividends.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 17 - - EARNINGS PER SHARE — continued

(Dollars in thousands, except	Years ended December 31,
per share amounts)	2009			2008
Basic earnings (loss) per share:
Net income (loss) available to common shareholders	$	(1,657	)	$	2,244
Average common shares outstanding - basic	3,787,327			3,788,296
Basic earnings (loss) per share	$	(0.44	)	$	0.59
Diluted earnings (loss) per share:
Net income (loss) available to common shareholders	$	(1,657	)	$	2,244
Average common shares outstanding - basic	3,787,327			3,788,296
Incremental shares from assumed conversion of stock options and restricted stock awards	—			40,765
Average common shares outstanding - diluted	3,787,327			3,829,061
Diluted earnings (loss) per share	$	(0.44	)	$	0.59

NOTE 18 - - STOCK COMPENSATION PLAN

In 2004, upon shareholder approval, the Company adopted an Omnibus Stock Ownership and Long Term Incentive Plan (the “Stock Plan”).  The Stock Plan authorizes the grant of options and awards of restricted stock to certain of our employees for up to 400,000 shares of the Company’s common stock from time to time during the term of the Stock Plan, subject to adjustments upon change in capitalization.  The Stock Plan is administered by the Compensation Committee of the Board of Directors of the Company.

Options granted under the Stock Plan are incentive stock options, and they are vested over a five year period with none vesting at the time of the grant.  All unexercised incentive stock options expire ten years after the date of the grant.  A summary of the Company’s incentive stock options as of December 31, 2009 and 2008 is as follows (with adjustments for the 3% stock dividend and the 2-for1stock split for each period):

	2009			2008
		Weighted			Weighted
		Average			Average
		Exercise			Exercise
	Shares	Price		Shares	Price
Outstanding at beginning of year	71,676	$	13.97	71,676	$	13.97
Granted	—	—		—
Exercised	—	—		—	—
Forfeited	—	—		—
Outstanding at end of year	71,676	$	13.97	71,676	$	13.97

The Company had no options exercised during 2009 or 2008.

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 18 - - STOCK COMPENSATION PLAN - continued

Restricted stock awards included in the Stock Plan vest after the first three consecutive periods during which the Bank’s return on average assets (ROAA) averages 1.15%.  At December 31, 2009 and 2008, none of the restricted stock had vested; therefore, no compensation expense related to the vesting was recognized.  All ungranted restricted stock awards expire.  A summary of the Company’s restricted stock awards as of December 31, 2009 and 2008 is as follows:

	2009			2008
		Weighted			Weighted
		Average			Average
		Exercise			Exercise
	Shares	Price		Shares	Price
Outstanding at beginning of year	48,867	$	14.40	48,867	$	14.40
Granted	—	—		—	—
Exercised	—	—		—	—
Forfeited	—	—		—
Outstanding at end of year	48,867	$	14.40	48,867	$	14.40

The following table summarizes information about stock options outstanding under the Company’s plans at December 31, 2009:

	Outstanding		Exercisable
Number of options	120,543		57,588
Weighted average remaining life	3 years		2 months
Weighted average exercise price	$	14.14	$	14.14

The aggregate intrinsic value of shares outstanding at December 31, 2009 was $2,772,489.

The Company measures the fair value of each option award on the date of grant using the Black-Scholes option-pricing model.  The Company determines the assumptions used in the Black-Scholes option pricing model as follows:  the risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant; the dividend yield is based on the Company’s dividend yield at the time of the grant (subject to adjustment if the dividend yield on the grant date is not expected to approximate the dividend yield over the expected life of the options); the volatility factor is based on the historical volatility of the Company’s stock (subject to adjustment if historical volatility is reasonably expected to differ from the past); the weighted-average expected life is based on the historical behavior of employees related to exercises, forfeitures and cancellations.

There were no stock options granted in 2009 or 2008.

A summary of the status of the nonvested shares as of December 31, 2009, and changes during the year ended December 31, 2009, is presented below:

		Weighted-
		Average
		Grant-Date
Nonvested Shares	Shares	Fair Value
Nonvested at January 1, 2009	6,735	14.49
Granted	—	—
Vested	—	—
Forfeited	—	—
Nonvested at December 31, 2009	6,735	$	14.49

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 18 - - STOCK COMPENSATION PLAN - continued

As of December 31, 2009, there was $12,000 of total unrecognized compensation cost related to nonvested share-based compensation arrangements granted under the plans.  That cost is expected to be recognized over a weighted-average period of 6 months.  The total fair value of shares vested during the years ended December 31, 2009 and 2008 was $161,513 and $690,568, respectively.

NOTE 19 - OTHER EXPENSES

Other expenses are summarized as follows:

	Years Ended December 31,
(Dollars in thousands)	2009		2008
Stationery, printing, and postage	$	429	$	439
Telephone	260		259
Director and advisory fees	175		134
ATM services	208		167
Repossession and foreclosure expenses	307		19
Accountant fees	167		143
Legal fees	265		166
Courier services	58		138
Other	1,405		1,231
Total	$	3,274	$	2,696

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 20 - INCOME TAXES

Income tax expense (benefit) is summarized as follows:

	Years Ended December 31,
(Dollars in thousands)	2009			2008
Currently payable:
Federal	$	335		$	1,465
State	—			58
Total current	335			1,523
Deferred income taxes	(1,492		)	229
Income tax expense	$	(1,157	)	$	1,752
Income tax expense (benefit) is allocated as follows:
To continuing operations	$	(840	)	$	1,104
To shareholders’ equity	(317		)	648
Total	$	(1,157	)	$	1,752

The components of the net deferred tax asset are as follows:

	December 31,
(Dollars in thousands)	2009		2008
Deferred tax assets:
Allowance for loan losses	$	2,375	$	1,265
Net capitalized loan costs	149		163
State net operating loss	80		72
Deferred compensation	499		367
Nonaccruing interest	388		133
Tax credits	98		14
Other real estate owned	129		88
Loss on equity securities	42		—
Total deferred tax assets	3,760		2,102
Valuation Allowance	122		72
Total net deferred tax assets	3,638		2,030
Deferred tax liabilities:
Accumulated depreciation	1,237		854
Gain on sale of real estate	73		73
Net unrealized gains on securities available-for-sale	328		645
Prepaid expenses	112		62
Total deferred tax liabilities	1,750		1,634
Net deferred tax asset	$	1,888	$	396

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HCSB FINANCIAL CORPORATION AND SUBSIDIARY

NOTE 20 - INCOME TAXES- continued

Management has determined that a valuation allowance is needed for the deferred tax asset associated with South Carolina net operating losses and the capital loss from worthless equity securities.  The 2009 net change in the valuation allowance related to deferred tax assets was an increase of $50,000, relating to unrecognizable deferred tax assets for additional South Carolina net operating losses created in 2009 and capital losses recognized in 2009.  Deferred tax assets are included in other assets.

The Company has South Carolina net operating loss carryforwards of $2,433,475 for income tax purposes as of December 31, 2009.  These net operating losses will expire in years 2019 through 2029.

A reconciliation between the income tax expense (benefit) and the amount computed by applying the Federal statutory rates of 34% to income before income taxes follows:

	Years ended December 31,
(Dollars in thousands)	2009			2008
Tax expense at statutory rate	$	(744	)	$	1,138
State income tax, net of federal income tax benefit	—			38
Tax-exempt interest income	(78		)	(93		)
Stock compensation expense	50			50
Other	(68		)	(29		)
Income tax provision	$	(840	)	$	1,104

NOTE 21 - UNUSED LINES OF CREDIT

As of December 31, 2009, the Company had unused lines of credit to purchase federal funds from unrelated banks totaling $21,000,000. These lines of credit are available on a one to fourteen day basis for general corporate purposes.  The lenders have reserved the right not to renew their respective lines.  The Company may also utilize its unpledged securities, which totaled $25,720,000 at December 31, 2009, if liquidity needs should arise.

NOTE 22 - FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instruments.  Because no market value exists for a significant portion of the financial instruments, fair value estimates are based on judgments regarding future expected loss, current economic conditions, risk characteristics of various financial instruments, and other factors.

The following methods and assumptions were used to estimate the fair value of significant financial instruments:

Cash and Due from Banks- The carrying amount is a reasonable estimate of fair value.

Federal Funds Sold and Purchased - Federal funds sold and purchased are for a term of one day and the carrying amount approximates the fair value.

Time Deposits with Other Banks - Time deposits with other banks have a term less than 90 days and the carrying amount approximates the fair value.

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NOTE 22 - FAIR VALUE OF FINANCIAL INSTRUMENTS - continued

Investment Securities Available-for-Sale- For securities available-for-sale, fair value equals the carrying amount, which is the quoted market price.  If quoted market prices are not available, fair values are based on quoted market prices of comparable securities.

Nonmarketable Equity Securities- The carrying amount is a reasonable estimate of fair value since no ready market exists for these securities.

Loans Held-for-Sale - Fair values of mortgage loans held for sale are based on commitments on hand from investors or market prices.

Loans Receivable- For certain categories of loans, such as variable rate loans which are repriced frequently and have no significant change in credit risk and credit card receivables, fair values are based on the carrying amounts.  The fair value of other types of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to the borrowers with similar credit ratings and for the same remaining maturities.

Deposits- The fair value of demand deposits, savings, and money market accounts is the amount payable on demand at the reporting date.  The fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies current interest rates to a schedule of aggregated expected maturities.

Advances from the Federal Home Loan Bank- For the portion of borrowings immediately callable, fair value is based on the carrying amount.  The fair value of the portion maturing at a later date is estimated using a discounted cash flow calculation that applies the interest rate of the immediately callable portion to the portion maturing at the future date.

Junior Subordinated Debentures - The carrying value of junior subordinated debentures is a reasonable estimate of fair value since the debentures were issued at a floating rate.

Note Payable-The fair value of the note payable approximates its carrying value because it reprices periodically.

Accrued Interest Receivable and Payable- The carrying value of these instruments is a reasonable estimate of fair value.

Commitments to Extend Credit and Standby Letters of Credit- The contractual amount is a reasonable estimate of fair value for the instruments because commitments to extend credit and standby letters of credit are issued on a short-term or floating rate basis and include no unusual credit risks.

Interest Rate Swaps - Fair values are based on the present value of future cash flows based on the interest rate spread between the fixed rate and the floating rate.

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NOTE 22 - FAIR VALUE OF FINANCIAL INSTRUMENTS — continued

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

	December 31,
	2009				2008
	Carrying		Estimated		Carrying		Estimated
(Dollars in thousands)	Amount		Fair Value		Amount		Fair Value
Financial Assets:
Cash and due from banks	$	44,902	$	44,902	$	10,423	$	10,423
Federal funds sold	—		—		—		—
Investment securities available-for-sale	169,463		169,463		166,992		166,992
Nonmarketable equity securities	6,715		6,715		5,261		5,261
Loans and loans held-for-sale	493,321		491,445		429,108		433,665
Accrued interest receivable	4,120		4,120		3,625		3,625
Other assets - interest rate swaps	—		—		83		83
Financial Liabilities:
Demand deposit, interest-bearing transaction, and savings accounts	$	232,191	$	232,191	$	176,182	$	176,182
Certificates of deposit	346,101		347,721		308,569		310,175
Repurchase agreements	8,031		8,031		9,172		9,172
Advances from the Federal Home Loan Bank	118,800		120,822		92,000		94,743
Notes Payable	—		—		4,500		4,500
Junior subordinated debentures	6,186		6,186		6,186		6,186
Accrued interest payable	1,444		1,444		2,105		2,105
Other liabilities - interest rate swaps	—		—		83		83

	Notional		Estimated		Notional		Estimated
	Amount		Fair Value		Amount		Fair Value
Off-Balance Sheet Financial Instruments:
Commitments to extend credit	$	53,840	$	N/A	$	61,918	N/A
Standby letters of credit	1,137		N/A		1,478		N/A

Generally accepted accounting principles require disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether the measurements are made on a recurring basis (for example, available-for-sale investment securities) or on a nonrecurring basis (for example, impaired loans).

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NOTE 22 - FAIR VALUE OF FINANCIAL INSTRUMENTS - continued

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  Accounting principles establish a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. There are three levels of inputs that may be used to measure fair value:

Level 1	Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasuries and money market funds.
Level 2	Observable inputs other than Level 1 prices such as quoted 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 for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities, and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts and impaired loans.
Level 3	Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts.

(Dollars in thousands)	Quoted market price in active markets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Available-for-sale investment securities	$	12,192	$	157,271	—
Mortgage loans held for sale	—		$	1,669	—
Fair Value Hedge	—		—		—
Total	$	12,192	$	158,940	—

The Company has no liabilities carried at fair value or measured at fair value on a nonrecurring basis.

The Company is predominantly an asset based lender with real estate serving as collateral on a substantial majority of loans. Loans which are deemed to be impaired are primarily valued nonrecurring basis at the fair values of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be level 2 inputs. The aggregate carrying amount of impaired assets at December 31, 2009 was $29,570,000.

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NOTE 22 - FAIR VALUE OF FINANCIAL INSTRUMENTS - continued

(Dollars in thousands)	Quoted market price in active markets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Nonaccrual loans (includes impaired loans)	$	—	$	23,138	—
Other real estate owned	—		$	6,432	—
Total	$	—	$	29,570	—

NOTE 23 - - HCSB FINANCIAL CORPORATION (PARENT COMPANY ONLY)

Presented below are the condensed financial statements for HCSB Financial Corporation and Subsidiary (Parent Company Only).

Condensed Balance Sheets

	December 31,
(Dollars in thousands)	2009		2008
Assets
Cash	$	375	$	52
Investment in banking subsidiary	50,517		43,811
Investment in trust	186		186
Nonmarketable equity securities	25		25
Other assets	162		1,080
Total assets	$	51,265	$	45,154
Liabilities and shareholders’ equity
Interest payable-notes payable	$	—	$	6
Interest payable-junior subordinated debentures	7		12
Notes payable	—		4,500
Junior subordinated debentures	6,186		6,186
Total liabilities	6,193		10,704
Shareholders’ equity	45,072		34,450
Total liabilities and shareholder’s equity	$	51,265	$	45,154

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NOTE 23 - - HCSB FINANCIAL CORPORATION (PARENT COMPANY ONLY)

Condensed Statements of Income

	Years ended December 31,
(Dollars in thousands)	2009			2008
Income
Dividends from banking subsidiary	$	—		$	372
Dividend from trust preferred securities	6			11
Other Income	—			—
	6			383
Expenses
Interest expense on notes payable	31			53
Interest expense on junior subordinated debentures	209			348
Other expenses	161			158
Income (loss) before income taxes and equity in undistributed earnings of banking subsidiary	(395		)	(176		)
Income tax benefit	66			207
Equity in undistributed earnings of banking subsidiary	(1,019		)	2,213
Net income (loss)	$	(1,348	)	$	2,244

Condensed Statements of Cash Flows

	Years ended December 31,
(Dollars in thousands)	2009			2008
Cash flows from operating activities:
Net income	$	(1,348	)	$	2,244
Adjustments to reconcile net income to net cash provided by operating activities:
Equity in undistributed earnings of banking subsidiary	1,019			(2,213		)
Increase in other assets	918			(213		)
Decrease in other liabilities	(11		)	(2		)
Dividends paid on preferred stock	(446		)	—
Stock compensation expense	147			147
Net cash used by operating activities	279			(37		)
Cash flows from investing activities:
Proceeds from sale of land and building	—			—
Net cash provided (used) from investing activities	—			—
Cash flows from financing activities:
Net increase in preferred stock	12,828			—
Increase (decrease) in notes payable	(4,500		)	4,500
Capital contribution to the Bank	(8,265		)	(4,400		)
Cash paid for fractional shares	(19		)	(27		)
Net cash provided (used) by financing activities	44			73
Increase (decrease) in cash	323			36
Cash and cash equivalents, beginning of year	52			16
Cash and cash equivalents, end of year	$	375		$	52

62

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

BOARD OF DIRECTORS

Michael S. Addy	President, Addy’s Harbor Dodge, Inc.
Johnny C. Allen	Retired, Horry County Treasurer
D. Singleton Bailey	President, Loris Drug Store, Inc.
Franklin C. Blanton	President, Blanton Supplies, Inc.
	President, Blanton Supplies of Little River, Inc.
Clay D. Brittain, III	Attorney, Thompson & Henry, P.A.
Rachel B. Broadhurst	President, Century 21 — Broadhurst & Associates, Inc.
Russell R. Burgess, Jr.	Owner, Aladdin Realty Company
	Owner and Broker-In-Charge
	Burgess Realty & Appraisal Service
James R. Clarkson	President and CEO
	HCSB Financial Corporation
	and Horry County State Bank
J. Lavelle Coleman	Retired, Tabor City Oil, Inc.
Larry G. Floyd	Retired, Floyd’s Insulation, Inc.
	& Cherry Grove Sales, Inc.
Boyd R. Ford, Jr.	Retired, Ford’s Fuel Service, Inc.
	& Ford’s Propane Gas, Inc.
Tommie W. Grainger	President, Coastal Timber Co., Inc.
Gwyn G. McCutchen	Dentist
T. Freddie Moore	Retired, Gateway Drug Store, Inc.
Carroll D. Padgett, Jr.	Attorney, Carroll D. Padgett, Jr., P.A.

OFFICERS OF THE BOARD OF DIRECTORS

Tommie W. Grainger	Michael S. Addy
Chairman	Vice Chairman
James R. Clarkson	D. Singleton Bailey
President and CEO	Secretary

63

HCSB FINANCIAL CORPORATION AND SUBSIDIARY

HORRY COUNTY STATE BANK CORPORATE OFFICERS

James R. Clarkson, President/CEO

Glenn R. Bullard, Senior Executive Vice President

Jerry J. Cox, Jr., Executive Vice President/Inland Region

Denise Floyd, Senior Vice President/Personnel Officer

Margaret H. Fowler, Senior Vice President/Operations Officer

Edward L. Loehr, Jr., Senior Vice President/CFO

Ron L. Paige, Executive Vice President/Myrtle Beach Region

Douglas E. Shaffer, Executive Vice President/North Strand Region

HORRY COUNTY STATE BANK BRANCHES AND ATM LOCATIONS

Broad Street, Loris Office*	Windy Hill Office*		Homewood Office*
5009 Broad Street		4400 Hwy. 17 South		3201 Hwy. 701 North
Loris, SC 29569		N. Myrtle Beach, SC 29582		Conway, SC 29526
843-756-6333		843-663-5600		843-369-4272
Mt. Olive Office*		Socastee Office*		Meeting Street, Loris Office
5264 Hwy. 9		4600 Hwy. 17 Bypass S.		4011 Meeting Street
Green Sea, SC 29545		Myrtle Beach, SC 29577		Loris, SC 29569
843-392-6333		843-293-7595		843-756-7168
Little River Office*		Myrtle Beach Office*		Carolina Forest Office*
3187 Hwy. 9 E.		1701 N. Oak Street		273 Carolina Forest Blvd.
Little River, SC 29566		Myrtle Beach, SC 29577		Myrtle Beach, SC 29579
843-399-9523		843-839-9339		843-903-3223
Highway 501 Office*		Tabor City Office*		Ocean Drive Office*
1627-A Church Street (Hwy. 501)		3210 Hwy. 701 Bypass		609 Highway 17 South
Conway, SC 29526		Loris, SC 29569		North Myrtle Beach, SC 29582
843-248-8250		910-653-3222		843-663-1396
Downtown Conway Office*				Covenant Towers Office
1300 2nd Avenue				5001 Little River Road
Conway, SC 29526				Myrtle Beach, SC 29577
843-488-5510				843-449-2484

*    Denotes ATM Location

64

EX-21

Exhibit 21

Subsidiaries of the Company

Horry County State Bank

HCSB Financial Trust I

1

EX-31.1

Exhibit 31.1

Rule 13a-14(a) Certification of the Chief Executive Officer

I, James R. Clarkson, president and chief executive officer, certify that:

1.I have reviewed this annual report on Form 10-K of HCSB Financial Corporation;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a—15(e) and 15d—15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a—15(f) and 15d—15(f)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: March 18, 2010	/s/James R. Clarkson
	James R. Clarkson
	President & Chief Executive Officer

1

EX-31.2

Exhibit 31.2

Rule 13a-14(a) Certification of the Principal Financial Officer

I, Edward L. Loehr, Jr., principal financial officer, certify that:

1.I have reviewed this annual report on Form 10-K of HCSB Financial Corporation;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a—15(e) and 15d—15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a—15(f) and 15d—15(f)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:	March 18, 2010	By:	/s/Edward L. Loehr, Jr.
			Edward L. Loehr, Jr.
			Principal Financial Officer

1

EX-32

Exhibit 32

CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

The undersigned, the Chief Executive Officer and the Principal Financial Officer of HCSB Financial Corporation (the “Company”), certifies that, to his knowledge on the date of this certification:

1.The annual report of the Company for the period ended December 31, 2009 as filed with the Securities and Exchange Commission on this date (the “Report”) fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

2.The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date:	March 18, 2010	By:	/s/James R. Clarkson
			James R. Clarkson
			President & Chief Executive Officer
Date:	March 18, 2010	By:	/s/Edward L. Loehr, Jr.
			Edward L. Loehr, Jr.
			Principal Financial Officer

1

EX-99.1

Exhibit 99.1

Certification

I, James R. Clarkson, President and Chief Executive Officer, certify, based on my knowledge, that:

(i) The compensation committee of HCSB Financial Corporation (“HCSB”) has discussed, reviewed, and evaluated with senior risk officers at least every six months during the period beginning on June 15, 2009 and ending December 31, 2009 (the “applicable period”), the senior executive officer (SEO) compensation plans and the employee compensation plans and the risks these plans pose to HCSB;

(ii) The compensation committee of HCSB has identified and limited during the applicable period any features of the SEO compensation plans that could lead SEOs to take unnecessary and excessive risks that could threaten the value of HCSB, and during that same applicable period has identified any features of the employee compensation plans that pose risks to HCSB and has limited those features to ensure that HCSB is not unnecessarily exposed to risks;

(iii) The compensation committee has reviewed, at least every six months during the applicable period, the terms of each employee compensation plan and identified any features of the plan that could encourage the manipulation of reported earnings of HCSB to enhance the compensation of an employee, and has limited any such features;

(iv) The compensation committee of HCSB will certify to the reviews of the SEO compensation plans and employee compensation plans required under (i) and (iii) above;

(v) The compensation committee of HCSB will provide a narrative description of how it limited during any part of the most recently completed fiscal year that included a TARP period the features in

(A) SEO compensation plans that could lead SEOs to take unnecessary and excessive risks that could threaten the value of HCSB;

(B) Employee compensation plans that unnecessarily expose HCSB to risks; and

(C) Employee compensation plans that could encourage the manipulation of reported earnings of HCSB to enhance the compensation of an employee;

(vi) HCSB has required that bonus payments, as defined in the regulations and guidance established under section 111 of EESA (bonus payments), of the SEOs and twenty next most highly compensated employees be subject to a recovery or “clawback” provision during any part of the most recently completed fiscal year that was a TARP period if the bonus payments were based on materially inaccurate financial statements or any other materially inaccurate performance metric criteria;

(vii) HCSB has prohibited any golden parachute payment, as defined in the regulations and guidance established under section 111 of EESA, to an SEO or any of the next five most highly compensated employees during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date;

(viii) HCSB has limited bonus payments to its applicable employees in accordance with section 111 of EESA and the regulations and guidance established thereunder during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date;

(ix) The board of directors of HCSB has established an excessive or luxury expenditures policy, as defined in the regulations and guidance established under section 111 of EESA, by the later of September 14, 2009, or ninety days after the closing date of the agreement between the TARP recipient and Treasury; this policy has been provided to Treasury and its primary regulatory agency; HCSB and its employees have complied with this policy during the applicable period; and any expenses that, pursuant to this policy, required approval of the board of directors, a

1

committee of the board of directors, an SEO, or an executive officer with a similar level of responsibility were properly approved;

(x) HCSB will permit a non-binding shareholder resolution in compliance with any applicable Federal securities rules and regulations on the disclosures provided under the Federal securities laws related to SEO compensation paid or accrued during any part of the most recently completed fiscal year that was a TARP period;

(xi) HCSB will disclose the amount, nature, and justification for the offering during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date of any perquisites, as defined in the regulations and guidance established under section 111 of EESA, whose total value exceeds $25,000 for any employee who is subject to the bonus payment limitations identified in paragraph (viii);

(xii) HCSB will disclose whether HCSB, the board of directors of HCSB, or the compensation committee of HCSB has engaged during any part of the most recently completed fiscal year that was a TARP period a compensation consultant; and the services the compensation consultant or any affiliate of the compensation consultant provided during this period;

(xiii) HCSB has prohibited the payment of any gross-ups, as defined in the regulations and guidance established under section 111 of EESA, to the SEOs and the next twenty most highly compensated employees during any part of the most recently completed fiscal year that was a TARP period;

(xiv) HCSB has substantially complied with all other requirements related to employee compensation that are provided in the agreement between HCSB and Treasury, including any amendments;

(xv) HCSB has submitted to Treasury a complete and accurate list of the SEOs and the twenty next most highly compensated employees for the current fiscal year and the most recently completed fiscal year, with the non-SEOs ranked in descending order of level of annual compensation, and with the name, title, and employer of each SEO and most highly compensated employee identified; and

(xvi) I understand that a knowing and willful false or fraudulent statement made in connection with this certification may be punished by fine, imprisonment, or both. (See, for example 18 U.S.C. 1001.)

Date: March 18, 2010
	/s/ James R. Clarkson
	James R. Clarkson, President and Chief Executive Officer
	(Principal Executive Officer)

2

EX-99.2

Exhibit 99.2

Certification

I, Edward L. Loehr, Jr., Chief Financial Officer, certify, based on my knowledge, that:

(i) The compensation committee of HCSB Financial Corporation (“HCSB”) has discussed, reviewed, and evaluated with senior risk officers at least every six months during the period beginning on June 15, 2009 and ending December 31, 2009 (the “applicable period”), the senior executive officer (SEO) compensation plans and the employee compensation plans and the risks these plans pose to HCSB;

(ii) The compensation committee of HCSB has identified and limited during the applicable period any features of the SEO compensation plans that could lead SEOs to take unnecessary and excessive risks that could threaten the value of HCSB, and during that same applicable period has identified any features of the employee compensation plans that pose risks to HCSB and has limited those features to ensure that HCSB is not unnecessarily exposed to risks;

(iii) The compensation committee has reviewed, at least every six months during the applicable period, the terms of each employee compensation plan and identified any features of the plan that could encourage the manipulation of reported earnings of HCSB to enhance the compensation of an employee, and has limited any such features;

(iv) The compensation committee of HCSB will certify to the reviews of the SEO compensation plans and employee compensation plans required under (i) and (iii) above;

(v) The compensation committee of HCSB will provide a narrative description of how it limited during any part of the most recently completed fiscal year that included a TARP period the features in

(A) SEO compensation plans that could lead SEOs to take unnecessary and excessive risks that could threaten the value of HCSB;

(B) Employee compensation plans that unnecessarily expose HCSB to risks; and

(C) Employee compensation plans that could encourage the manipulation of reported earnings of HCSB to enhance the compensation of an employee;

(vi) HCSB has required that bonus payments, as defined in the regulations and guidance established under section 111 of EESA (bonus payments), of the SEOs and twenty next most highly compensated employees be subject to a recovery or “clawback” provision during any part of the most recently completed fiscal year that was a TARP period if the bonus payments were based on materially inaccurate financial statements or any other materially inaccurate performance metric criteria;

(vii) HCSB has prohibited any golden parachute payment, as defined in the regulations and guidance established under section 111 of EESA, to an SEO or any of the next five most highly compensated employees during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date;

(viii) HCSB has limited bonus payments to its applicable employees in accordance with section 111 of EESA and the regulations and guidance established thereunder during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date;

(ix) The board of directors of HCSB has established an excessive or luxury expenditures policy, as defined in the regulations and guidance established under section 111 of EESA, by the later of September 14, 2009, or ninety days after the closing date of the agreement between the TARP recipient and Treasury; this policy has been provided to Treasury and its primary regulatory agency; HCSB and its employees have complied with this policy during the applicable period; and any expenses that, pursuant to this policy, required

approval of the board of directors, a committee of the board of directors, an SEO, or an executive officer with a similar level of responsibility were properly approved;

(x) HCSB will permit a non-binding shareholder resolution in compliance with any applicable Federal securities rules and regulations on the disclosures provided under the Federal securities laws related to SEO compensation paid or accrued during any part of the most recently completed fiscal year that was a TARP period;

(xi) HCSB will disclose the amount, nature, and justification for the offering during the period beginning on the later of the closing date of the agreement between HCSB and Treasury or June 15, 2009 and ending with the last day of HCSB’ fiscal year containing that date of any perquisites, as defined in the regulations and guidance established under section 111 of EESA, whose total value exceeds $25,000 for any employee who is subject to the bonus payment limitations identified in paragraph (viii);

(xii) HCSB will disclose whether HCSB, the board of directors of HCSB, or the compensation committee of HCSB has engaged during any part of the most recently completed fiscal year that was a TARP period a compensation consultant; and the services the compensation consultant or any affiliate of the compensation consultant provided during this period;

(xiii) HCSB has prohibited the payment of any gross-ups, as defined in the regulations and guidance established under section 111 of EESA, to the SEOs and the next twenty most highly compensated employees during any part of the most recently completed fiscal year that was a TARP period;

(xiv) HCSB has substantially complied with all other requirements related to employee compensation that are provided in the agreement between HCSB and Treasury, including any amendments;

(xv) HCSB has submitted to Treasury a complete and accurate list of the SEOs and the twenty next most highly compensated employees for the current fiscal year and the most recently completed fiscal year, with the non-SEOs ranked in descending order of level of annual compensation, and with the name, title, and employer of each SEO and most highly compensated employee identified; and

(xvi) I understand that a knowing and willful false or fraudulent statement made in connection with this certification may be punished by fine, imprisonment, or both. (See, for example 18 U.S.C. 1001.)

Date: March 18, 2010
	/s/ Edward L. Loehr, Jr.
	Edward L. Loehr, Jr., Chief Financial Officer
	(Principal Financial and Accounting Officer)